MERCK & CO., INC. The following section of this Form 10-K generally discusses 2022 and 2021 results and year-to-year comparisons between 2022 and 2021. Discussion of 2020 results and year-to-year comparisons between 2021 and 2020 that are not included in this Form 10-K can be found in "Management's Discussion and Analysis of Financial Condition and Results of Operations" in Part II, Item 7 of the Company's Annual Report on Form 10-K for the fiscal year endedDecember 31, 2021 filed onFebruary 25, 2022 .
Description of
Merck & Co., Inc. (Merck or the Company) is a global health care company that delivers innovative health solutions through its prescription medicines, including biologic therapies, vaccines and animal health products. The Company's operations are principally managed on a product basis and include two operating segments,Pharmaceutical and Animal Health , both of which are reportable segments. The Pharmaceutical segment includes human health pharmaceutical and vaccine products. Human health pharmaceutical products consist of therapeutic and preventive agents, generally sold by prescription, for the treatment of human disorders. The Company sells these human health pharmaceutical products primarily to drug wholesalers and retailers, hospitals, government agencies and managed health care providers such as health maintenance organizations, pharmacy benefit managers and other institutions. Human health vaccine products consist of preventive pediatric, adolescent and adult vaccines. The Company sells these human health vaccines primarily to physicians, wholesalers, physician distributors and government entities.The Animal Health segment discovers, develops, manufactures and markets a wide range of veterinary pharmaceutical and vaccine products, as well as health management solutions and services, for the prevention, treatment and control of disease in all major livestock and companion animal species. The Company also offers an extensive suite of digitally connected identification, traceability and monitoring products. The Company sells its products to veterinarians, distributors, animal producers, farmers and pet owners.
Spin-Off of Organon & Co.
OnJune 2, 2021 ,Merck completed the spin-off of products from its women's health, biosimilars and established brands businesses into a new, independent, publicly traded company named Organon & Co. (Organon) through a distribution of Organon's publicly traded stock to Company shareholders. The distribution is expected to qualify and has been treated as tax-free to the Company and its shareholders forU.S. federal income tax purposes. The established brands included in the transaction consisted of dermatology, non-opioid pain management, respiratory, select cardiovascular products, as well as the rest ofMerck 's diversified brands franchise.Merck 's existing research pipeline programs continue to be owned and developed withinMerck as planned. The historical results of the businesses that were contributed to Organon in the spin-off have been reflected as discontinued operations in the Company's consolidated financial statements through the date of the spin-off (see Note 3 to the consolidated financial statements). 43
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Overview
Financial Highlights
% Change % Change
Excluding Excluding
($ in millions except per share Foreign Foreign
amounts) 2022 % Change Exchange 2021 % Change Exchange 2020
Sales $ 59,283 22 % 26 % $ 48,704 17 % 16 % $ 41,518
Net Income from Continuing
Operations Attributable to Merck &
Co., Inc. :
GAAP $ 14,519 18 % 21 % $ 12,345 * * $ 4,519
Non-GAAP (1) $ 19,005 40 % 43 % $ 13,623 81 % 98 % $ 7,545
Earnings per Common Share Assuming
Dilution from Continuing
Operations Attributable to Merck &
Co., Inc. Common Shareholders:
GAAP $ 5.71 17 % 21 % $ 4.86 * * $ 1.78
Non-GAAP (1) $ 7.48 39 % 43 % $ 5.37 81 % 98 % $ 2.97
* > 100%
(1) Non-GAAP net income and non-GAAP earnings per share (EPS) exclude
acquisition and divestiture-related costs, restructuring costs, gains and losses
from investments in equity securities, and certain other items from Merck 's
results prepared in accordance with generally accepted accounting principles in
the U.S. (GAAP). In 2022, the Company changed the treatment of certain items for
purposes of its non-GAAP reporting. Prior periods have been recast to conform to
the current presentation. For further discussion and a reconciliation of GAAP to
non-GAAP net income and EPS, see "Non-GAAP Income and Non-GAAP EPS from
Continuing Operations" below.
Executive Summary
Merck 's 2022 results reflect sustained strong demand for the Company's innovative product portfolio benefiting patients globally, enabled by strong operational and commercial execution, the completion of business development transactions to support its science-led strategy, as well as progress in its pipeline across therapeutic areas, modalities and stage of development. [[Image Removed: mrk-20221231_g3.jpg]] Worldwide sales were$59.3 billion in 2022, an increase of 22% compared with 2021, or 26% excluding the unfavorable effect of foreign exchange. The sales increase was primarily due to growth in virology (driven by the benefit of Lagevrio sales), oncology, vaccines and hospital acute care. Sales within theAnimal Health business were consistent with prior year. As discussed below, COVID-19-related disruptions negatively affected sales in 2022, but to a lesser extent than in 2021, which benefited year-over-year sales growth.
•Exercised an option to jointly develop and commercialize personalized therapeutic cancer vaccine mRNA-4157/V940 under an existing collaboration and license agreement with Moderna, Inc. (Moderna).
•Entered into a collaboration with Orna Therapeutics (Orna), a company pioneering a new investigational class of engineered circular RNA therapies, to discover, develop, and commercialize multiple programs, including vaccines and therapeutics in the areas of infectious disease and oncology.
•Entered into a global co-development and co-commercialization agreement for Orion Corporation's (Orion) investigational candidate ODM-208 (MK-5684) currently being evaluated for the treatment of patients with metastatic castration-resistant prostate cancer (mCRPC).
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•Entered into a license and collaboration agreement withSichuan Kelun-Biotech Biopharmaceutical Co., Ltd. (Kelun-Biotech) for the development, manufacture and commercialization of an investigational antibody drug conjugate (ADC) (MK-1200) for the treatment of solid tumors.
•Exercised an option to obtain an exclusive license (outside of Chinese
mainland,
•Entered into a license and collaboration agreement expanding the Company's relationship with Kelun-Biotech pursuant to whichMerck gained exclusive rights for the research, development, manufacture and commercialization of up to seven investigational preclinical ADCs for the treatment of cancer (Kelun-Biotech retained rights for certain licensed and option ADCs for Chinese mainland,Hong Kong andMacau ); the transaction closed inFebruary 2023 . •Entered into agreement to acquire Imago BioSciences, Inc. (Imago), a clinical stage biopharmaceutical company developing new medicines for the treatment of myeloproliferative neoplasms and other bone marrow diseases; the acquisition closed inJanuary 2023 . During 2022, the Company received numerous regulatory approvals within oncology. Keytruda received approval for additional indications in theU.S. and/or internationally as monotherapy in the therapeutic areas of biliary, colorectal, endometrial, gastric, melanoma, small intestine and renal cell cancers, as well as in combination with chemotherapy in the therapeutic areas of breast and cervical cancers. Keytruda was also approved in combination with Lenvima inJapan for the treatment of certain adult patients with radically unresectable or metastatic renal cell carcinoma (RCC). Lenvima is being developed in collaboration with Eisai Co., Ltd. (Eisai). Lynparza, which is being developed in collaboration with AstraZeneca PLC (AstraZeneca), received approval in theU.S. , theEuropean Union (EU) andJapan for the adjuvant treatment of certain adult patients with high-risk early breast cancer and in the EU for the treatment of certain patients with mCRPC. Also in 2022, Vaxneuvance, a vaccine to help prevent pneumococcal disease, was approved for expanded indications in theU.S. and the EU to include use in infants, adolescents and children. Additionally in 2022, Lyfnua (gefapixant) was approved inJapan for adults with refractory or unexplained chronic cough. In addition, in 2022, Lagevrio, which is being developed in a collaboration withRidgeback Biotherapeutics LP (Ridgeback), received emergency conditional approval inChina for the treatment of mild to moderate COVID-19 in adults who are at risk for progressing to severe COVID-19.
In addition to the recent regulatory approvals discussed above, the Company advanced its late-stage pipeline with several regulatory submissions.
Keytruda is under review in theU.S. and/or internationally for supplemental indications for the treatment of certain patients with hepatocellular, Merkel cell, non-small-cell lung and urothelial cancers, as well as primary mediastinal B-cell lymphoma (PMBCL). Lynparza is under review for supplemental indications in theU.S. andJapan for the treatment of certain patients with mCRPC. MK-4482, Lagevrio, an investigational oral antiviral COVID-19 medicine, is under a rolling review by theEuropean Medicines Agency (EMA); the Committee for Medicinal Products for Human Use of the EMA has recommended the refusal of the marketing authorization, whichMerck and Ridgeback intend to appeal. MK-7264, gefapixant, a selective, non-narcotic, orally-administered, investigational P2X3-receptor antagonist being developed for the treatment of refractory, chronic cough is under review in theU.S. and the EU.
The Company's Phase 3 oncology programs include:
•Keytruda in the therapeutic areas of biliary, cutaneous squamous cell, gastric, hepatocellular, mesothelioma, ovarian, prostate and small-cell lung cancers;
•Lynparza in combination with Keytruda for non-small-cell lung and small-cell lung cancers;
•Lenvima in combination with Keytruda for colorectal, esophageal, gastric, head and neck, melanoma and non-small-cell lung cancers;
•MK-1308A, the coformulation of quavonlimab,
•MK-3475, subcutaneous pembrolizumab for non-small-cell lung cancer (NSCLC);
•MK-3475A, the subcutaneous coformulation of pembrolizumab with hyaluronidase, for NSCLC;
•MK-4280A, the coformulation of favezelimab,Merck 's novel investigational anti-LAG3 therapy, and pembrolizumab for colorectal cancer and hematological malignancies; •Welireg for RCC; 45
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•MK-7119, Tukysa (tucatinib), which is being developed in collaboration with Seagen Inc. (Seagen), for breast and colorectal cancers; and
•MK-7684A, the coformulation of vibostolimab, an anti-TIGIT therapy, and pembrolizumab for melanoma, non-small-cell and small-cell lung cancers.
Additionally, the Company currently has candidates in Phase 3 clinical development in several other therapeutic areas including:
•V116, an investigational 21-valent pneumococcal conjugate vaccine for the prevention of invasive pneumococcal disease and pneumococcal pneumonia in adults;
•MK-7962, sotatercept, for the treatment of pulmonary arterial hypertension (PAH);
•MK-1654, clesrovimab, for the prevention of respiratory syncytial virus;
•MK-8591A, islatravir in combination with doravirine for the treatment of HIV-1 infection (which is on partial clinical hold for higher doses than those used in current clinical trials); and
•MK-4482, Lagevrio, which is reflected in Phase 3 development in the
Merck 's capital allocation priorities are to make investments in its business to drive near- and long-term growth, including investing in opportunities to address important unmet medical needs and supporting the Company's commercial opportunities. In addition,Merck remains committed to its dividend and will continue to pursue the most compelling external science through value-enhancing business development transactions. Research and development expenses in 2022 reflect higher clinical development spending particularly in the therapeutic areas of oncology, cardiovascular, infectious diseases and vaccines. [[Image Removed: mrk-20221231_g4.jpg]] InNovember 2022 ,Merck 's Board of Directors approved an increase to the Company's quarterly dividend, raising it to$0.73 per share from$0.69 per share on the Company's outstanding common stock. During 2022, the Company returned$7.0 billion to shareholders through dividends. [[Image Removed: mrk-20221231_g5.jpg]][[Image Removed: mrk-20221231_g6.jpg]] GAAP and Non-GAAP EPS were negatively affected in 2022, 2021 and 2020 by$0.22 ,$0.65 , and$1.56 , respectively, of charges for certain upfront and pre-approval milestone payments related to collaborations and licensing agreements, as well as charges related to pre-approval assets obtained in transactions accounted for as asset acquisitions. War inUkraine InFebruary 2022 ,Russia invadedUkraine . The Company's primary concerns are the safety and well-being of its employees and ensuring patients and customers have continued access to medicines and vaccines needed for patient and public health. The Company is working cross-functionally across the globe to monitor and mitigate interruptions to business continuity resulting from the war, including its impact onMerck 's supply chain, operations and clinical trials. For humanitarian reasons, the Company is continuing to supply essential medicines and vaccines inRussia while working to maintain compliance with international sanctions.Merck is donating profits 46
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resulting from its operations inRussia to humanitarian causes. The Company does not have research or manufacturing facilities inRussia , currently does not plan to make further investments inRussia , and has suspended screening and enrollment in ongoing clinical trials as well as planning for new studies inRussia , although the Company continues to treat patients already enrolled in existing clinical trials and collect data from these studies. The Company is also using its resources to help alleviate the humanitarian crisis inUkraine , including through donations of funds and products. The financial impacts of the war were immaterial to the Company's consolidated financial statements for 2022. Sales toRussia were approximately 1% of totalMerck consolidated sales for 2022 and are expected to decline in future periods. The Company is unable to determine at this time the future direct or indirect impacts of this war on the Company's business. COVID-19 Although COVID-19-related disruptions had some negative effect on sales in 2022,Merck continues to believe that global health systems and patients have largely adapted to the impacts of the COVID-19 pandemic.Merck 's revenue in 2022 benefited from sales of Lagevrio, which were$5.7 billion .Merck expects sales of Lagevrio will decline significantly in 2023 to approximately$1.0 billion . In 2021, COVID-19-related disruptions resulted in an estimated negative impact to Pharmaceutical segment sales of approximately$1.3 billion because a substantial portion of Pharmaceutical segment revenue is comprised of physician-administered products, which were unfavorably affected by social distancing measures and fewer well visits. Sales in 2021 benefited from$952 million of Lagevrio sales. InApril 2021 ,Merck announced it was discontinuing the development of MK-7110 for the treatment of hospitalized patients with COVID-19, which was obtained as part ofMerck 's acquisition of OncoImmune (see Note 4 to the consolidated financial statements). This decision resulted in charges of$207 million to Cost of sales in 2021. Operating expenses in 2021 reflect a minor positive effect as investments in COVID-19-related research largely offset the favorable impact of lower spending in other areas due to the COVID-19 pandemic. InMarch 2021 ,Merck announced it had entered into multiple agreements to support efforts to expand manufacturing capacity and supply of SARS-CoV-2/COVID-19 medicines and vaccines. TheBiomedical Advanced Research and Development Authority (BARDA), a division of theOffice of the Assistant Secretary for Preparedness and Response within theU.S. Department of Health and Human Services , providedMerck with$102 million of funding in the first quarter of 2022 to adapt and make available a number of existing manufacturing facilities for the production of SARS-CoV-2/COVID-19 vaccines and medicines. The funding was recognized as a reduction to Cost of sales over the expected production period, offsetting the depreciation expense related to the amounts that were capitalized in connection with the modification of the manufacturing facilities.Merck and Johnson & Johnson have commenced an arbitration regarding a dispute concerning two agreements pursuant to whichMerck was supporting the manufacturing and supply of Johnson & Johnson's SARS-CoV-2/COVID-19 vaccine and vaccine drug product. The amounts included in the consolidated financial statements for these agreements were immaterial in 2022.Merck does not believe the outcome of the arbitration will have a material impact on the Company's financial statements.
Pricing
Global efforts toward health care cost containment continue to exert pressure on product pricing and market access worldwide. Changes to theU.S. health care system enacted in prior years as part of health care reform, as well as increased purchasing power of entities that negotiate on behalf of Medicare, Medicaid, and private sector beneficiaries, have contributed to pricing pressure. In several international markets, government-mandated pricing actions have reduced prices of generic and patented drugs. In addition, the Company's sales performance in 2022 was negatively affected by other cost-reduction measures taken by governments and other third parties to lower health care costs. In 2022, theU.S. Congress passed the Inflation Reduction Act, which makes significant changes to how drugs are covered and paid for under the Medicare program, including the creation of financial penalties for drugs whose prices rise faster than the rate of inflation, redesign of the Medicare Part D program to require manufacturers to bear more of the liability for certain drug benefits, and government price-setting for certain Medicare Part D drugs (starting in 2026) and Medicare Part B drugs (starting in 2028). In theU.S. , theBiden Administration andCongress continue to discuss legislation designed to control health care costs, including the cost of drugs. The Company anticipates all of these actions and additional actions in the future will negatively affect sales and profits.
Supply Chain
As a result of global macroeconomic conditions, the Company is experiencing some
minor disruption and volatility in its global supply chain network. These
disruptions could increase in the future and cause delays in shipments of raw
materials and packaging, as well as related cost inflation.
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Operating Results
Sales
% Change % Change
Excluding Excluding
Foreign Foreign
($ in millions) 2022 % Change Exchange 2021 % Change Exchange 2020
United States $ 27,206 21 % 21 % $ 22,425 14 % 14 % $ 19,588
International 32,077 22 % 29 % 26,279 20 % 17 % 21,930
Total $ 59,283 22 % 26 % $ 48,704 17 % 16 % $ 41,518
Worldwide sales grew 22% in 2022 attributable in part to higher sales in the
virology franchise driven by Lagevrio. Also contributing to revenue growth were
higher sales in the oncology franchise largely due to strong growth of Keytruda
and increased alliance revenue from Lenvima and Lynparza, as well as higher
sales in the vaccines franchise, primarily attributable to growth in
Gardasil/Gardasil 9 and the launch of Vaxneuvance for pediatric use. Higher
sales of hospital acute care products, including Bridion, Zerbaxa, Dificid and
Prevymis, as well as higher revenue related to third-party manufacturing
arrangements also drove revenue growth in 2022. As discussed above,
COVID-19-related disruptions had some negative effects on sales in 2022, but to
a lesser extent than in 2021, which benefited year-over-year sales growth. Sales
growth in 2022 was partially offset by lower sales of diabetes products Januvia
and Janumet, the Pneumovax 23 vaccine, and virology products Isentress/Isentress
HD.
Sales in the U.S. grew 21% in 2022 primarily driven by higher sales of Keytruda,
Lagevrio, Gardasil 9, as well as increased alliance revenue from Lenvima and
Reblozyl (obtained as part of the Acceleron Pharma Inc. (Acceleron) acquisition
in November 2021 ), and the launch of Vaxneuvance for pediatric use. Higher sales
of Bridion, Welireg, Zerbaxa and Dificid, as well as increased revenue from
third-party manufacturing arrangements also contributed to U.S. sales growth in
2022. Lower sales of Pneumovax 23 and Januvia partially offset revenue growth in
the U.S. in 2022.
International sales grew 22% in 2022 primarily due to higher sales of Lagevrio,
Gardasil/Gardasil 9, Keytruda, and Zerbaxa, as well as increased revenue from
third-party manufacturing arrangements, partially offset by lower sales of
Januvia/Janumet, Simponi, Isentress/Isentress HD, Remicade, and Pneumovax 23.
International sales represented 54% of total sales in both 2022 and 2021.
See Note 19 to the consolidated financial statements for details on sales of the
Company's products. A discussion of performance for select products in the
franchises follows.
Pharmaceutical Segment
Oncology
% Change % Change
Excluding Excluding
Foreign Foreign
($ in millions) 2022 % Change Exchange 2021 % Change Exchange 2020
Keytruda $ 20,937 22 % 27 % $ 17,186 20 % 18 % $ 14,380
Alliance Revenue - Lynparza
(1) 1,116 13 % 18 % 989 36 % 35 % 725
Alliance Revenue - Lenvima (1) 876 24 % 28 % 704 21 % 20 %
580
Alliance Revenue - Reblozyl (2) 166 * * 17 - - - * > 100%
(1) Alliance revenue represents
(2) Alliance revenue represents royalties and, for 2022, also includes a payment received related to the achievement of a regulatory approval milestone (see Note 5 to the consolidated financial statements).
Keytruda is an anti-PD-1 (programmed death receptor-1) therapy that has been
approved as monotherapy for the treatment of certain patients with cervical
cancer, classical Hodgkin lymphoma, cutaneous squamous cell carcinoma,
esophageal or gastroesophageal junction (GEJ) carcinoma, head and neck squamous
cell carcinoma (HNSCC), hepatocellular carcinoma (HCC), NSCLC, melanoma, Merkel
cell carcinoma, microsatellite instability-high (MSI-H) or mismatch repair
deficient (dMMR) cancer (solid tumors) including MSI-H/dMMR colorectal cancer,
MSI-H/dMMR advanced endometrial carcinoma, PMBCL, tumor mutational burden-high
(TMB-H) cancer (solid tumors), and urothelial carcinoma, including non-muscle
invasive bladder cancer. Additionally, Keytruda is approved as monotherapy for
the adjuvant treatment of certain patients with RCC at intermediate-high or high
risk of recurrence and for certain patients with completely resected stage IIB,
IIC or III melanoma, and for adjuvant treatment following resection and
platinum-based chemotherapy for adult patients with stage IB (T2a ?4 cm), II, or
IIIA NSCLC. Keytruda
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is also approved for certain patients with high-risk early-stage triple-negative breast cancer (TNBC) in combination with chemotherapy as neoadjuvant treatment, and then continued as a single agent as adjuvant treatment after surgery. In addition, Keytruda is approved for the treatment of certain patients in combination with chemotherapy for metastatic squamous and nonsquamous NSCLC, in combination with chemotherapy, with or without bevacizumab for advanced cervical cancer, in combination with chemotherapy for esophageal cancer, in combination with trastuzumab, fluoropyrimidine- and platinum-containing chemotherapy for human epidermal growth factor 2 (HER2)-positive gastric or GEJ adenocarcinoma, in combination with chemotherapy for HNSCC, in combination with chemotherapy for locally recurrent unresectable or metastatic TNBC, in combination with axitinib for advanced RCC, and in combination with Lenvima for certain patients with advanced endometrial carcinoma or advanced RCC. The Keytruda clinical development program includes studies across a broad range of cancer types. Global sales of Keytruda grew 22% in 2022 primarily driven by higher demand as the Company continues to launch Keytruda with multiple new indications globally. Sales in theU.S. continue to build across the multiple approved metastatic indications, in particular for the treatment of certain types of RCC, HNSCC, and MSI-H cancers. Keytruda sales growth in theU.S. also benefited from increased uptake across recent launches in earlier-stage indications including in high-risk early stage TNBC, as well as certain types of RCC and melanoma. Keytruda sales growth in international markets reflects continued uptake predominately for the NSCLC, HNSCC and RCC indications, particularly inEurope .
Keytruda recently received numerous regulatory approvals summarized below.
Date Approval
EC approval as monotherapy for the adjuvant treatment of adults with RCC at
resection of metastatic lesions, based on the KEYNOTE-564 trial.
Japan's Ministry of Health, Labor and Welfare (MHLW)
approval of the combination
the CLEAR (Study 307)/KEYNOTE-581 trial.
MHLW approval for the treatment of adult patients with advanced or recurrent TMB-H
difficult to treat with standard of care), based on the KEYNOTE-158 trial.
U.S. Food and Drug Administration (FDA) approval as a
single agent for the
treatment of patients with advanced endometrial carcinoma that is MSI-H or dMMR
are not candidates for curative surgery or radiation, based on the KEYNOTE-158
trial (Cohorts D & K).
EC approval in combination with chemotherapy, with or without bevacizumab, for the
whose tumors express PD-L1, based on the KEYNOTE-826 trial.
EC approval as monotherapy for the treatment of certain adult patients with
biliary cancer, as well as advanced or recurrent MSI-H/dMMR endometrial carcinoma,
based on the KEYNOTE-164 and KEYNOTE-158 trials.
EC approval in combination with chemotherapy as neoadjuvant treatment, and then
locally advanced or early-stage TNBC at high risk of recurrence, based on the
KEYNOTE-522 trial.
EC approval as monotherapy for the adjuvant treatment of adults and adolescents
aged 12 years and older with stage IIB or IIC melanoma and who have undergone
indications in advanced (unresectable or metastatic) melanoma and stage III
melanoma with lymph node involvement (as adjuvant treatment following complete
resection) to include adolescent patients aged 12 years and older.
MHLW approval as monotherapy for the adjuvant treatment of certain patients with
nephrectomy and resection of metastatic lesions, based on the KEYNOTE-564 trial.
MHLW approval in combination with chemotherapy as neoadjuvant treatment, and then
hormone receptor-negative and HER2-negative breast cancer at high risk of
recurrence, based on the KEYNOTE-522 trial.
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MHLW approval in combination with chemotherapy, with or without bevacizumab, for
chemotherapy who are not amenable to curative treatment, based on the KEYNOTE-826
trial.
or IIC melanoma after complete resection, based on the KEYNOTE-716 trial.
China's National Medical Products Administration (NMPA)
approval as monotherapy
sorafenib or oxaliplatin-based chemotherapy, based on the KEYNOTE-394 trial.
NMPA approval for the treatment of patients with high-risk early-stage TNBC whose
and then continued as a monotherapy as adjuvant treatment after surgery, based on
the KEYNOTE-522 trial.
FDA approval as a single agent for adjuvant treatment following surgical resection
or IIIA NSCLC, based on the KEYNOTE-091 trial.
The Company is a party to certain third-party license agreements pursuant to
which the Company pays royalties on sales of Keytruda. Under the terms of the
more significant of these agreements, Merck pays a royalty of 6.5% on worldwide
sales of Keytruda through December 2023 to one third party; this royalty will
decline to 2.5% for 2024 through 2026 and will terminate thereafter. The Company
pays an additional 2% royalty on worldwide sales of Keytruda to another third
party, the termination date of which varies by country; this royalty will expire
in the U.S. in September 2024 and on varying dates in major European markets in
the second half of 2025. The royalties are included in Cost of sales.
Lynparza is an oral poly (ADP-ribose) polymerase (PARP) inhibitor being
developed as part of a collaboration with AstraZeneca (see Note 5 to the
consolidated financial statements). Lynparza is approved for the treatment of
certain types of advanced or recurrent ovarian, early or metastatic breast,
metastatic pancreatic and metastatic castration-resistant prostate cancers.
Alliance revenue related to Lynparza grew 13% in 2022 largely due to higher
demand globally across the multiple approved indications, particularly in the
U.S. largely attributable to uptake in the earlier-stage breast cancer
indication following approval by the FDA in March 2022 .
Lynparza received several regulatory approvals in 2022 summarized below.
Date Approval
FDA approval for the adjuvant treatment of adult patients with deleterious or
cancer who have been treated with neoadjuvant or adjuvant chemotherapy, based on
the OlympiA trial.
HER2-negative high recurrent risk breast cancer, based
on the
EC approval as monotherapy or in combination with endocrine therapy for the
HER2-negative, high-risk early breast cancer previously treated with neoadjuvant
or adjuvant chemotherapy, based on the OlympiA trial.
NMPA approval as first-line maintenance treatment for adult patients with
advanced epithelial ovarian, fallopian tube or primary peritoneal cancer who are
September2022 in complete or partial response to first-line platinum-based chemotherapy in
combination with bevacizumab and whose cancer is associated with homologous
recombination deficiency (HRD)-positive status, based on the PAOLA-1 trial.
EC approval in combination with abiraterone and prednisone or prednisolone for
indicated, based on the PROpel trial.
Lenvima is an oral receptor tyrosine kinase inhibitor being developed as part of
a collaboration with Eisai (see Note 5 to the consolidated financial
statements). Lenvima is approved for the treatment of certain types of thyroid
cancer, RCC, HCC, in combination with everolimus for certain patients with
advanced RCC, and in combination with Keytruda for certain patients with
advanced endometrial carcinoma or advanced RCC. Alliance revenue related to
Lenvima grew 24% in 2022 reflecting uptake in the advanced RCC and advanced
endometrial carcinoma indications, particularly in the U.S.
Reblozyl is a first-in-class erythroid maturation recombinant fusion protein
obtained as part of Merck 's November 2021 acquisition of Acceleron that is being
developed and commercialized through a global collaboration with Bristol Myers
Squibb (see Note 5 to the consolidated financial statements). Reblozyl is
approved for the treatment of certain types of anemia. Merck recorded alliance
revenue of $166 million in 2022, which includes
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royalties of$146 million , as well as the receipt of a regulatory approval milestone payment of$20 million , compared with alliance revenue of$17 million in 2021. Vaccines % Change % Change Excluding Excluding Foreign Foreign ($ in millions) 2022 % Change Exchange 2021 % Change Exchange 2020 Gardasil/Gardasil 9$ 6,897 22 % 27 %$ 5,673 44 % 39 %$ 3,938 ProQuad 839 9 % 11 % 773 14 % 13 % 678 M-M-R II 411 5 % 7 % 391 3 % 3 % 378 Varivax 991 2 % 4 % 971 18 % 18 % 823 Pneumovax 23 602 (33) % (30) % 893 (18) % (19) % 1,087 Combined worldwide sales of Gardasil and Gardasil 9, vaccines to help prevent certain cancers and other diseases caused by certain types of human papillomavirus (HPV), grew 22% in 2022 driven primarily by strong demand outside of theU.S. , particularly inChina , which also benefited from increased supply. Sales of Gardasil 9 in theU.S. increased due to public sector buying patterns and higher pricing, partially offset by lower demand. In 2022,China's NMPA expanded the use of Gardasil 9 for use in girls and women ages 9 to 45. The vaccine was previously approved for use in girls and women ages 16 to 26. The Company is a party to certain third-party license agreements pursuant to which the Company pays royalties on sales of Gardasil/Gardasil 9. Under the terms of the more significant of these agreements,Merck pays a 7% royalty on worldwide sales of Gardasil/Gardasil 9 to one third party (which expires inDecember 2023 ) and an additional 7% royalty on sales of Gardasil/Gardasil 9 in theU.S. to another third party (which expires inDecember 2028 ). The royalties are included in Cost of sales. Global sales of ProQuad, a pediatric combination vaccine to help protect against measles, mumps, rubella and varicella, grew 9% in 2022 primarily due to higher pricing in theU.S. and higher demand inEurope .
Worldwide sales of M-M-R II, a vaccine to help protect against measles, mumps
and rubella, grew 5% in 2022 primarily due to higher pricing in the
Global sales of Varivax, a vaccine to help prevent chickenpox (varicella), grew 2% in 2022 primarily reflecting higher pricing in theU.S. , partially offset by lower tenders inLatin America . Worldwide sales of Pneumovax 23, a vaccine to help prevent pneumococcal disease, declined 33% in 2022 primarily reflecting lower demand in theU.S. as the market continues to shift toward newer adult pneumococcal conjugate vaccines following changes in the recommendations of theU.S. Centers for Disease Control and Prevention's (CDC 's)Advisory Committee on Immunization Practices (ACIP) in 2021. The Company expects the decline inU.S. sales of Pneumovax 23 to continue. Lower demand inEurope also contributed to the Pneumovax 23 sales decline in 2022. InJune 2022 , the FDA approved an expanded indication for Vaxneuvance to include use in individuals 6 weeks of age and older. TheFDA's approval was based on data from seven randomized, double-blind clinical studies assessing safety, tolerability and immunogenicity of Vaxneuvance in infants and children. Also inJune 2022 , theCDC 's ACIP unanimously voted to include Vaxneuvance as a recommended option for vaccination in infants and children, including routine use in children under 2 years of age. These recommendations subsequently were adopted by the director of theCDC and theU.S. Department of Health and Human Services , and published in theCDC 's Morbidity and Mortality Weekly Report (MMWR). The ACIP also unanimously voted to include Vaxneuvance in the Vaccines for Children program. InOctober 2022 , the EC approved an expanded indication for Vaxneuvance to include use in infants, children and adolescents from 6 weeks to less than 18 years of age. Vaxneuvance was previously approved for use in theU.S. and the EU in 2021 for individuals 18 years of age and older. InSeptember 2022 , Vaxneuvance was approved inJapan for use in adult patients. Vaxneuvance remains under review inJapan for use in pediatric patients. Sales of Vaxneuvance were$170 million in 2022, largely due to inventory stocking in theU.S. Merck is party to a third-party licensing agreement pursuant to which the Company pays a royalty of 7.25% on net sales of Vaxneuvance through 2026; this royalty will decline to 2.5% on net sales from 2027 through 2035. The royalties are included in Cost of sales. 51
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Hospital Acute Care
% Change % Change
Excluding Excluding
Foreign Foreign
($ in millions) 2022 % Change Exchange 2021 % Change Exchange 2020
Bridion $ 1,685 10 % 16 % $ 1,532 28 % 27 % $ 1,198
Prevymis 428 16 % 24 % 370 32 % 30 % 281
Dificid 263 50 % 50 % 175 60 % 60 % 110
Zerbaxa 169 * * (1) * * 130
Welireg 123 ** ** 13 - - -
* Calculation not meaningful.
** >100%
Global sales of Bridion, for the reversal of two types of neuromuscular blocking
agents used during surgery, grew 10% in 2022 due to higher demand globally,
particularly in the U.S. , largely attributable to Bridion's growing share among
neuromuscular blockade reversal agents and an increase in surgical procedures.
Bridion will lose market exclusivity in the EU in July 2023 and the Company
anticipates sales of Bridion in these markets will decline thereafter.
Worldwide sales of Prevymis, a medicine for prophylaxis (prevention) of
cytomegalovirus (CMV) infection and disease in adult CMV-seropositive recipients
of an allogenic hematopoietic stem cell transplant, grew 16% in 2022 due to
higher demand globally, particularly in the U.S. and Europe . In February 2023 ,
the FDA granted priority review for a supplemental New Drug Application for
Prevymis for prophylaxis of CMV disease in adult kidney transplant recipients at
high risk (D+/R-); the Prescription Drug User Fee Act (PDUFA), or target action,
date is June 5, 2023 .
Worldwide sales of Dificid, for the treatment of C. difficile-associated
diarrhea, grew 50% in 2022 due to higher demand in the
In
Sales of Welireg, for the treatment of certain adult patients with
Cardiovascular
% Change % Change
Excluding Excluding
Foreign Foreign
($ in millions) 2022 % Change Exchange 2021 % Change Exchange 2020
Alliance Revenue -
Adempas/Verquvo (1) $ 341 - % - % $ 342 22 % 22 % $ 281
Adempas 238 (6) % 7 % 252 14 % 11 % 220
(1) Alliance revenue represents
Adempas and Verquvo are part of a worldwide collaboration with Bayer to market and develop soluble guanylate cyclase (sGC) modulators (see Note 5 to the consolidated financial statements). Adempas is approved for the treatment of certain types of PAH and chronic thromboembolic pulmonary hypertension. Verquvo is approved to reduce the risk of cardiovascular death and heart failure hospitalization following a hospitalization for heart failure or need for outpatient intravenous diuretics in adults with symptomatic chronic heart failure and reduced ejection fraction. Verquvo was approved in theU.S. , the EU andJapan in 2021 and has since been approved in several other markets. Alliance revenue from the collaboration was essentially flat in 2022 compared with 2021 reflecting higher profit share related to Adempas that was partially offset by lower profit share for Verquvo reflecting higher launch costs. Revenue also includes sales of Adempas and Verquvo inMerck 's marketing territories. Sales of Adempas inMerck 's marketing territories declined 6% in 2022; excluding the unfavorable effect of foreign exchange, sales grew 7% primarily reflecting higher demand inJapan . 52
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Virology
% Change % Change
Excluding Excluding
Foreign Foreign
($ in millions) 2022 % Change Exchange 2021 % Change Exchange 2020
Lagevrio $ 5,684 * * $ 952 - - $ -
Isentress/Isentress HD 633 (18) % (13) % 769 (10) % (11) % 857
* > 100%
Lagevrio is an investigational oral antiviral COVID-19 medicine being developed
in a collaboration with Ridgeback (see Note 5 to the consolidated financial
statements). Following initial authorizations in certain markets in the fourth
quarter of 2021, Lagevrio has since received multiple additional authorizations
worldwide. The increase in sales of Lagevrio in 2022 primarily reflects higher
sales in the UK , Japan and the U.S. , as well as the launch in Australia . In
December 2022 , China's NMPA granted emergency conditional approval for Lagevrio
for the treatment of mild to moderate COVID-19 in adults who are at risk for
progressing to severe COVID-19. Merck expects sales of Lagevrio will decline
significantly in 2023 to approximately $1.0 billion reflecting in part the
waning impact of the COVID-19 pandemic.
Worldwide sales of Isentress/Isentress HD, an HIV integrase inhibitor for use in
combination with other antiretroviral agents for the treatment of HIV-1
infection, declined 18% in 2022 due to lower global demand, reflecting in part
competitive pressure particularly in Europe , Latin America and the U.S. The
Company expects competitive pressure for Isentress/Isentress HD to continue.
Isentress/Isentress HD will lose market exclusivity in the EU in July 2023 and
the Company anticipates sales declines of Isentress/Isentress HD in these
markets will accelerate thereafter.
Diabetes
% Change % Change
Excluding Excluding
Foreign Foreign
($ in millions) 2022 % Change Exchange 2021 % Change Exchange 2020
Januvia/Janumet $ 4,513 (15) % (9) % $ 5,288 - % (2) % $ 5,276
Worldwide combined sales of Januvia and Janumet, medicines that help lower blood
sugar levels in adults with type 2 diabetes, declined 15% in 2022 primarily
reflecting the loss of exclusivity in several markets in Europe and the Asia
Pacific region, as well as lower demand in the U.S. The sales decline was
partially offset by increased demand in Latin America reflecting in part higher
government tenders.
While the key U.S. patent for Januvia and Janumet claiming the sitagliptin
compound expired in January 2023 , as a result of favorable court rulings and
settlement agreements related to a later expiring patent directed to the
specific sitagliptin salt form of the products (see Note 11 to the consolidated
financial statements), the Company expects that these products will not lose
market exclusivity in the U.S. until May 2026 . However, certain of the rulings
are currently being appealed, and an unfavorable court decision would likely
cause the products to lose exclusivity in the U.S. toward the end of 2023. As a
result of competitive pressures, the Company anticipates pricing and volume
declines for Januvia and Janumet in the U.S. in 2023 and thereafter.
The Company lost market exclusivity for Januvia in all of the EU and for Janumet
in some European countries in September 2022 . Merck expects that exclusivity for
Janumet will be lost in other European countries in April 2023 . While the
Company lost market exclusivity for Januvia in China in 2022 with the approval
of a generic equivalent product, the impact on sales in 2023 is expected to be
modest. It is anticipated that a generic equivalent of Janumet will be approved
in China in the first quarter of 2023, but the impact to sales in 2023 is also
expected to be modest.
Combined sales of Januvia and Janumet in Europe , China and the U.S. represented
19%, 11% and 36%, respectively, of total combined Januvia and Janumet sales in
2022.
In response to a request from a regulatory authority, Merck evaluated its
sitagliptin-containing products for the presence of nitrosamines. Nitrosamines
are organic compounds found at trace levels in water and food. Nitrosamines can
also result from chemical reactions and can form in drugs either due to the
drug's manufacturing process, chemical structure, or the conditions in which the
drugs are stored or packaged. The Company detected a nitrosamine identified as
Nitroso-STG-19 (NTTP) in some batches of its sitagliptin-containing medicines.
The Company has engaged with major health authorities around the world and has
implemented additional quality controls to ensure its portfolio of
sitagliptin-containing products meet health authorities' interim acceptable NTTP
limits for continuing distribution of product to the market. The Company is
making progress in its efforts to reduce the level
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of nitrosamines in its sitagliptin-containing medicines. However, difficulties
in reducing those levels, or achieving timely regulatory approvals for required
changes, could result in product shortages.
Animal Health Segment
% Change % Change
Excluding Excluding
Foreign Foreign
($ in millions) 2022 % Change Exchange 2021 % Change Exchange 2020
Livestock $ 3,300 - % 7 % $ 3,295 12 % 10 % $ 2,939
Companion Animal 2,250 (1) % 4 % 2,273 29 % 26 % 1,764
Sales of livestock products were essentially flat in 2022 primarily due to the
unfavorable effect of foreign exchange, offset by higher pricing, as well as
increased demand for ruminant and poultry products. Sales of companion animal
products declined 1% in 2022 reflecting the unfavorable effect of foreign
exchange and supply constraints for certain vaccines, largely offset by higher
pricing in the portfolio, as well as higher demand for the Bravecto line of
products, which had sales of $1.0 billion in 2022.
Costs, Expenses and Other
($ in millions) 2022 % Change 2021 % Change 2020
Cost of sales $ 17,411 28 % $ 13,626 - % $ 13,618
Selling, general and administrative 10,042 4 % 9,634 8 % 8,955
Research and development 13,548 11 % 12,245 (9) % 13,397
Restructuring costs 337 (49) % 661 15 % 575
Other (income) expense, net 1,501 * (1,341) 51 % (890)
$ 42,839 21 % $ 34,825 (2) % $ 35,655 * Calculation not meaningful.
Cost of Sales
Cost of sales was$17.4 billion in 2022 and$13.6 billion in 2021. Cost of sales includes$3.0 billion and$502 million in 2022 and 2021, respectively, related to the collaboration with Ridgeback for Lagevrio (see Note 5 to the consolidated financial statements). Cost of sales also includes the amortization of intangible assets recorded in connection with acquisitions, collaborations, and licensing arrangements, which totaled$2.0 billion in 2022 and$1.6 billion in 2021. Amortization expense in 2022 and 2021 includes$250 million and$153 million , respectively, of cumulative catch-up amortization related toMerck 's collaborations with AstraZeneca and Bayer, respectively (see Note 5 to the consolidated financial statements). Additionally, costs in 2021 include charges of$225 million related to the discontinuation of COVID-19 development programs (see Note 4 to the consolidated financial statements). Also included in cost of sales are expenses associated with restructuring activities, which amounted to$205 million in 2022 and$160 million in 2021, primarily reflecting accelerated depreciation and asset write-offs related to the planned sale or closure of manufacturing facilities. Separation costs associated with manufacturing-related headcount reductions have been incurred and are reflected in Restructuring costs as discussed below. Gross margin was 70.6% in 2022 compared with 72.0% in 2021. The gross margin decline primarily reflects the unfavorable impacts of higher amortization of intangible assets (noted above), as well as higher sales of Lagevrio and revenue from third-party manufacturing arrangements, both of which have lower gross margins. The gross margin decline was partially offset by the favorable effects of product mix, foreign exchange and charges in 2021 related to the discontinuation of COVID-19 development programs (noted above).
Selling, General and Administrative
Selling, general and administrative (SG&A) expenses were$10.0 billion in 2022, an increase of 4% compared with 2021. The increase was primarily due to higher administrative costs, as well as higher promotional spending and selling costs, partially offset by the favorable effects of foreign exchange and lower acquisition-related costs.
Research and Development
Research and development (R&D) expenses were$13.5 billion in 2022, an increase of 11% compared with 2021 primarily due to higher intangible asset impairment charges (largely related to nemtabrutinib), higher charges for upfront and option payments related to collaborations and licensing arrangements, higher compensation 54
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and benefit costs reflecting in part increased headcount to support expanded clinical development activity, and increased clinical development spending. The increase in R&D expenses was partially offset by a charge in 2021 for the acquisition ofPandion Therapeutics, Inc. (Pandion). R&D expenses are comprised of the costs directly incurred byMerck Research Laboratories (MRL), the Company's research and development division that focuses on human health-related activities, which were$7.7 billion in 2022 and$7.1 billion in 2021. Also included in R&D expenses areAnimal Health research costs, licensing costs and costs incurred by other divisions in support of R&D activities, including depreciation, production and general and administrative, which in the aggregate were$4.1 billion in 2022 and$4.7 billion in 2021. The decrease in these expenses in 2022 largely reflects a$1.7 billion charge in 2021 for the acquisition of Pandion, partially offset by$690 million of upfront and option payments in the aggregate for collaboration and licensing agreements with Moderna, Orna and Orion. See Note 4 to the consolidated financial statements for additional information related to these business development transactions. R&D expenses also include impairment charges of$1.7 billion and$275 million in 2022 and 2021, respectively, largely related to nemtabrutinib (see Note 9 to the consolidated financial statements). The Company may recognize additional impairment charges in the future related to the cancellation or delay of other pipeline programs that were measured at fair value and capitalized in connection with business combinations and such charges could be material. R&D expenses also include expense or income related to changes in the estimated fair value measurement of liabilities for contingent consideration recorded in connection with business combinations. The Company recorded a net reduction in expenses of$75 million in 2022 compared with$35 million of expenses in 2021 related to changes in these estimates.
Restructuring Costs
In 2019,Merck approved a global restructuring program (Restructuring Program) as part of a worldwide initiative focused on further optimizing the Company's manufacturing and supply network, as well as reducing its global real estate footprint. This program is a continuation of the Company's plant rationalization and builds on prior restructuring programs. The actions currently contemplated under the Restructuring Program are expected to be substantially completed by the end of 2023, with the cumulative pretax costs to be incurred by the Company to implement the program estimated to be approximately$3.7 billion .Merck expects to record charges of approximately$400 million in 2023 related to the Restructuring Program. The Company anticipates the actions under the Restructuring Program will result in cumulative annual net cost savings of approximately$900 million by the end of 2023. Restructuring costs, primarily representing separation and other related costs associated with these restructuring activities, were$337 million in 2022 and$661 million in 2021. Separation costs incurred were associated with actual headcount reductions, as well as estimated expenses under existing severance programs for involuntary headcount reductions that were probable and could be reasonably estimated. Also included in restructuring costs are asset abandonment, facility shut-down and other related costs, as well as employee-related costs such as curtailment, settlement and termination charges associated with pension and other postretirement benefit plans and share-based compensation plan costs. For segment reporting, restructuring costs are unallocated expenses. Additional costs associated with the Company's restructuring activities are included in Cost of sales, Selling, general and administrative expenses and Research and development costs. The Company recorded aggregate pretax costs of$666 million in 2022 and$868 million in 2021 related to restructuring program activities (see Note 6 to the consolidated financial statements).
Other (Income) Expense, Net
Other (income) expense, net, was
For details on the components of Other (income) expense, net, see Note 15 to the consolidated financial statements.
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Table of Contents Segment Profits ($ in millions) 2022 2021 2020 Pharmaceutical segment profits$ 36,852 $ 30,977 $ 26,106 Animal Health segment profits 1,963 1,950
1,669
Other non-reportable segment profits - -
1
Other (22,371) (19,048)
(21,913)
Income from Continuing Operations Before Taxes
Pharmaceutical segment profits are comprised of segment sales less standard costs, as well as SG&A expenses directly incurred by the segment.Animal Health segment profits are comprised of segment sales, less all cost of sales, as well as SG&A and R&D expenses directly incurred by the segment. For internal management reporting presented to the chief operating decision maker,Merck does not allocate the remaining cost of sales not included in segment profits as described above, R&D expenses incurred by MRL, or general and administrative expenses, nor the cost of financing these activities. Separate divisions maintain responsibility for monitoring and managing these costs, including depreciation related to fixed assets utilized by these divisions and, therefore, they are not included in segment profits. Also excluded from the determination of segment profits are costs related to restructuring activities and acquisition and divestiture-related costs, including the amortization of intangible assets and amortization of purchase accounting adjustments, intangible asset impairment charges, and expense or income related to changes in the estimated fair value measurement of liabilities for contingent consideration. Additionally, segment profits do not reflect other expenses from corporate and manufacturing cost centers and other miscellaneous income or expense. These unallocated items are reflected in "Other" in the above table. Also included in "Other" are miscellaneous corporate profits (losses), as well as operating profits (losses) related to third-party manufacturing arrangements. Pharmaceutical segment profits grew 19% in 2022 primarily due to higher sales, partially offset by higher administrative and promotional costs, as well as the unfavorable effect of foreign exchange.Animal Health segment profits grew 1% in 2022 reflecting lower manufacturing costs, partially offset by higher selling and administrative costs and the unfavorable effect of foreign exchange.
Taxes on Income
The effective income tax rates from continuing operations were 11.7% in 2022 and 11.0% in 2021. The tax rate from continuing operations in 2022 and 2021 reflect a favorable mix of income and expense. The tax rate from continuing operations in 2022 also reflects the favorable impact of net unrealized losses from investments in equity securities and intangible asset impairment charges, which were taxed at theU.S. tax rate. These items reduced domestic pretax income by approximately$2.9 billion in 2022. The tax rate from continuing operations in 2021 also reflects higher foreign tax credits from ordinary business operations that the Company was able to credit, the beneficial impact of the settlement of a foreign tax matter, as well as a net tax benefit of$207 million related to the settlement of certain federal income tax matters (see Note 16 to the consolidated financial statements). Additionally, the tax rate from continuing operations in 2021 reflects the unfavorable effect of a charge for the acquisition of Pandion for which no tax benefit was recognized.
Non-GAAP Income and Non-GAAP EPS from Continuing Operations
Non-GAAP income and non-GAAP EPS are alternative views of the Company's performance thatMerck is providing because management believes this information enhances investors' understanding of the Company's results since management uses non-GAAP measures to assess performance. Non-GAAP income and non-GAAP EPS exclude certain items because of the nature of these items and the impact that they have on the analysis of underlying business performance and trends. The excluded items (which should not be considered non-recurring) consist of acquisition and divestiture-related costs, restructuring costs, income and losses from investments in equity securities and certain other items. These excluded items are significant components in understanding and assessing financial performance. Non-GAAP income and non-GAAP EPS are important internal measures for the Company. Senior management receives a monthly analysis of operating results that includes a non-GAAP EPS metric. Management uses non-GAAP measures internally for planning and forecasting purposes and to measure the performance of the Company along with other metrics. In addition, senior management's annual compensation is derived in part using a non-GAAP pretax income metric. Since non-GAAP income and non-GAAP EPS are not measures determined in accordance with GAAP, they have no standardized meaning prescribed by GAAP and, therefore, may not be 56
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comparable to the calculation of similar measures of other companies. The information on non-GAAP income and non-GAAP EPS should be considered in addition to, but not as a substitute for or superior to, net income and EPS prepared in accordance with GAAP. In 2022, the Company changed the treatment of certain items for purposes of its non-GAAP reporting. Historically,Merck 's non-GAAP results excluded expenses for upfront and pre-approval milestone payments related to collaborations and licensing agreements, as well as charges related to pre-approval assets obtained in transactions accounted for as asset acquisitions, to the extent the charges were considered by the Company to be significant to the results of a particular period (as well as any related adjustments recorded in a subsequent period).Merck 's non-GAAP results no longer exclude charges related to these items. Prior periods have been recast to conform to the current presentation.
A reconciliation between GAAP financial measures and non-GAAP financial measures (from continuing operations) is as follows:
($ in millions except per share amounts) 2022 2021 2020
Income from continuing operations before taxes as reported under GAAP
$ 16,444 $ 13,879 $ 5,863 Increase (decrease) for excluded items: Acquisition and divestiture-related costs (1) 3,704 2,484 3,642 Restructuring costs 666 868 880 Loss (income) from investments in equity securities, net 1,348 (1,884) (1,292)
Other items: Charges for the discontinuation of COVID-19 development programs -
225 305
Other - (4) (20)
Non-GAAP income from continuing operations before taxes 22,162 15,568 9,378
Taxes on income from continuing operations as reported under GAAP 1,918
1,521 1,340
Estimated tax benefit on excluded items (2) 1,232 204 556
Net tax benefit from the settlement of certain federal income tax matters
- 207 -
Adjustment to tax benefits recorded in conjunction with the 2015
- - (67)
Non-GAAP taxes on income from continuing operations 3,150 1,932 1,829
Non-GAAP net income from continuing operations 19,012 13,636 7,549
Less: Net income attributable to noncontrolling interests as reported under GAAP
7 13 4
Non-GAAP net income from continuing operations attributable to
$
19,005
$ 5.71 $ 4.86 $ 1.78 EPS difference 1.77 0.51 1.19 Non-GAAP EPS assuming dilution from continuing operations $
7.48
(1)Amounts in 2022, 2021 and 2020 include
(2) The estimated tax impact on the excluded items is determined by applying the statutory rate of the originating territory of the non-GAAP adjustments.
Acquisition and Divestiture-Related Costs
Non-GAAP income and non-GAAP EPS exclude the impact of certain amounts recorded in connection with acquisitions and divestitures of businesses. These amounts include the amortization of intangible assets and amortization of purchase accounting adjustments to inventories, as well as intangible asset impairment charges, and expense or income related to changes in the estimated fair value measurement of liabilities for contingent consideration. Also excluded are integration, transaction, and certain other costs associated with acquisitions and divestitures of businesses. Non-GAAP income and non-GAAP EPS also exclude amortization of intangible assets related to collaborations and licensing arrangements.
Restructuring Costs
Non-GAAP income and non-GAAP EPS exclude costs related to restructuring actions
(see Note 6 to the consolidated financial statements). These amounts include
employee separation costs and accelerated depreciation associated with
facilities to be closed or divested. Accelerated depreciation costs represent
the difference between the depreciation expense to be recognized over the
revised useful life of the asset, based upon the anticipated date the site will
be closed or divested or the equipment disposed of, and depreciation expense as
determined utilizing the useful life prior to the restructuring actions.
Restructuring costs also include asset abandonment, facility shut-down
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and other related costs, as well as employee-related costs such as curtailment, settlement and termination charges associated with pension and other postretirement benefit plans and share-based compensation costs.
Income and Losses from Investments in
Non-GAAP income and non-GAAP EPS exclude realized and unrealized gains and losses from investments in equity securities either owned directly or through ownership interests in investment funds.
Certain Other Items
Non-GAAP income and non-GAAP EPS exclude certain other items. These items are adjusted for after evaluating them on an individual basis, considering their quantitative and qualitative aspects. Typically, these consist of items that are unusual in nature, significant to the results of a particular period or not indicative of future operating results. Excluded from non-GAAP income and non-GAAP EPS are charges related to the discontinuation of COVID-19 development programs (see Note 4 to the consolidated financial statements), as well as a net tax benefit related to the settlement of certain federal income tax matters (see Note 16 to the consolidated financial statements), and an adjustment to tax benefits recorded in conjunction with the 2015 acquisition ofCubist Pharmaceuticals, Inc. Research and Development Research Pipeline The Company currently has several candidates under regulatory review in theU.S. and internationally, as well as in late-stage clinical development. A chart reflecting the Company's current research pipeline as ofFebruary 17, 2023 and related discussion is set forth in Item 1. "Business - Research and Development" above.
Acquisitions, Research Collaborations and Licensing Agreements
Merck continues to remain focused on pursuing opportunities that have the potential to drive both near- and long-term growth. Certain recent transactions are summarized below; additional details are included in Note 4 to the consolidated financial statements.Merck actively monitors the landscape for growth opportunities that meet the Company's strategic criteria. InFebruary 2023 ,Merck and Kelun-Biotech closed a license and collaboration agreement expanding their relationship in whichMerck gained exclusive rights for the research, development, manufacture and commercialization of up to seven investigational preclinical ADCs for the treatment of cancer. Kelun-Biotech retained the right to research, develop, manufacture and commercialize certain licensed and option ADCs for Chinese mainland,Hong Kong andMacau .Merck will make an upfront payment of$175 million , which will be recorded in Research and development expenses in 2023. In addition, Kelun-Biotech is eligible to receive future contingent milestone payments and tiered royalties on future net sales for any commercialized ADC product. Also, in connection with the agreement,Merck invested$100 million in Kelun-Biotech's Series B preferred shares inJanuary 2023 . InJanuary 2023 ,Merck acquired Imago, a clinical stage biopharmaceutical company developing new medicines for the treatment of myeloproliferative neoplasms and other bone marrow diseases, for$1.35 billion (including payments to settle share-based equity awards) and also incurred approximately$60 million of transaction costs. Imago's lead candidate bomedemstat, MK-3543 (formerly IMG-7289), is an investigational orally available lysine-specific demethylase 1 inhibitor currently being evaluated in multiple Phase 2 clinical trials for the treatment of essential thrombocythemia, myelofibrosis, and polycythemia vera, in addition to other indications. The transaction was accounted for as an acquisition of an asset.Merck will record net assets of approximately$200 million and Research and development expenses of$1.2 billion in 2023 related to the transaction. There are no future contingent payments associated with the acquisition. InSeptember 2022 ,Merck exercised its option to jointly develop and commercialize personalized therapeutic cancer vaccine mRNA-4157/V940 pursuant to the terms of an existing collaboration and license agreement with Moderna, which resulted in a$250 million charge to Research and development expenses in 2022. mRNA-4157/V940 is currently being evaluated in combination with Keytruda as adjuvant treatment for patients with stage III/IV melanoma following complete resection in a Phase 2 clinical trial being conducted by Moderna.Merck and Moderna will collaborate on development and commercialization and will share costs and any profits equally under this worldwide collaboration. InFebruary 2023 ,Merck and Moderna announced that mRNA-4157/V940 was granted Breakthrough Therapy Designation by the FDA for the adjuvant treatment of patients with high-risk melanoma following complete resection. InAugust 2022 ,Merck and Orna entered into a collaboration agreement to discover, develop, and commercialize multiple programs, including vaccines and therapeutics in the areas of infectious disease and oncology. Under the terms of the agreement,Merck made an upfront payment to Orna of$150 million , which was recorded in Research and development expenses in 2022. In addition, Orna is eligible to receive future contingent 58
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development-related payments, as well as royalties on any approved products
derived from the collaboration.
InJuly 2022 ,Merck and Orion announced a global co-development and co-commercialization agreement for Orion's investigational candidate ODM-208 (MK-5684) and other drugs targeting cytochrome P450 11A1 (CYP11A1), an enzyme important in steroid production. MK-5684 is an oral, non-steroidal inhibitor of CYP11A1 currently being evaluated in a Phase 2 clinical trial for the treatment of patients with mCRPC.Merck made an upfront payment to Orion of$290 million , which was recorded in Research and development expenses in 2022. Also inJuly 2022 ,Merck and Kelun-Biotech closed a license and collaboration agreement in whichMerck gained exclusive worldwide rights for the development, manufacture and commercialization of an investigational ADC (MK-1200) for the treatment of solid tumors. Under the terms of the agreement,Merck and Kelun-Biotech will collaborate on the early clinical development of the investigational ADC.Merck made an upfront payment of$35 million , which was recorded in Research and development expenses in 2022. Kelun-Biotech is also eligible to receive future contingent milestone payments, as well as tiered royalties on future net sales. InMay 2022 , in connection with an existing arrangement,Merck exercised its option to obtain an exclusive license outside of Chinese mainland,Hong Kong ,Macau andTaiwan for the development, manufacture and commercialization of Kelun-Biotech's TROP2-targeting ADC programs, including its lead compound, SKB-264 (MK-2870), which is currently in Phase 2 clinical development. Under the terms of the agreement,Merck and Kelun-Biotech will collaborate on certain early clinical development plans, including evaluating the potential of MK-2870 as a monotherapy and in combination with Keytruda for advanced solid tumors. Upon option exercise,Merck made a payment of$30 million , which was recorded in Research and development expenses in 2022, and agreed to make additional payments upon completion of specified project activities, technology transfer, as well as payments to fund Kelun-Biotech's ongoing research and development activities. In addition, Kelun-Biotech is eligible to receive future contingent developmental and sales-based milestone payments and royalties on future net sales.
In connection with business combinations, the Company has recorded the fair value of in-process research projects which, at the time of acquisition, had not yet reached technological feasibility. AtDecember 31, 2022 , the balance of IPR&D was$7.7 billion , primarily consisting of MK-7962 (sotatercept),$6.4 billion ; MK-7264 (gefapixant),$832 million ; and MK-1026 (nemtabrutinib),$418 million . Sotatercept is in Phase 3 clinical development and the Company anticipates filing sotatercept with regulatory authorities in 2023. Gefapixant is under review in theU.S. and the EU. Nemtabrutinib is in Phase 2 clinical development. The IPR&D projects that remain in development are subject to the inherent risks and uncertainties in drug development and it is possible that the Company will not be able to successfully develop and complete the IPR&D programs and profitably commercialize the underlying product candidates. The time periods to receive approvals from the FDA and other regulatory agencies are subject to uncertainty. Significant delays in the approval process, or the Company's failure to obtain approval at all, would delay or prevent the Company from realizing revenues from these products. Additionally, if the IPR&D programs require additional clinical trial data than previously anticipated, or if the programs fail or are abandoned during development, then the Company will not recover the fair value of the IPR&D recorded as an asset as of the acquisition date. If such circumstances were to occur, the Company's future operating results could be adversely affected and the Company may recognize impairment charges, which could be material. In 2022, 2021, and 2020 the Company recorded IPR&D impairment charges within Research and development expenses of$1.6 billion ,$275 million and$90 million , respectively (see Note 9 to the consolidated financial statements). Additional research and development will be required before any of the remaining programs reach technological feasibility. The costs to complete the research projects will depend on whether the projects are brought to their final stages of development and are ultimately submitted to the FDA or other regulatory agencies for approval.
Capital Expenditures
Capital expenditures were$4.4 billion in 2022,$4.4 billion in 2021 and$4.4 billion in 2020. Expenditures in theU.S. were$2.7 billion in 2022,$2.8 billion in 2021 and$2.6 billion in 2020. The Company plans to invest approximately$20 billion in capital projects from 2021-2025, approximately half of which relates to investments in theU.S. , including expanding manufacturing capacity for oncology, vaccine and animal health products. Depreciation expense was$1.8 billion in 2022,$1.6 billion in 2021 and$1.7 billion in 2020, of which$1.3 billion in 2022,$1.1 billion in 2021 and$1.2 billion in 2020, related to locations in theU.S. Total depreciation expense in 2022, 2021 and 2020 included accelerated depreciation of$120 million ,$91 million and$268 million , respectively, associated with restructuring activities (see Note 6 to the consolidated financial statements). 59
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Analysis of Liquidity and Capital Resources
Merck 's strong financial profile enables it to fund research and development, focus on external alliances, support in-line products and maximize upcoming launches while providing significant cash returns to shareholders. Selected Data ($ in millions) 2022 2021 2020 Working capital$ 11,483 $ 6,394 $ 437 Total debt to total liabilities and equity 28.1 % 31.3 % 34.7 % Cash provided by operating activities of continuing operations to total debt 0.6:1 0.4:1 0.2:1 The increase in working capital in 2022 compared with 2021 is primarily due to increased cash and investments reflecting strong operating performance. The increase in working capital in 2021 compared with 2020 is primarily related to decreased short-term debt. Cash provided by operating activities of continuing operations was$19.1 billion in 2022 compared with$13.1 billion in 2021. The increase in cash provided by operating activities of continuing operations reflects stronger operating performance. Cash provided by operating activities of continuing operations was reduced by milestone and option payments related to certain collaborations of$2.0 billion in 2022 and$435 million in 2021. Cash provided by operating activities of continuing operations continues to be the Company's primary source of funds to finance operating needs, with excess cash serving as the primary source of funds to finance business development transactions, capital expenditures, dividends paid to shareholders and treasury stock purchases. The mandatory change in R&D capitalization rules that became effective for tax years beginning afterDecember 31, 2021 (related to the Tax Cuts and Jobs Act of 2017 (TCJA)), increased the amount of taxes the Company pays in theU.S. beginning in 2022. Cash used in investing activities of continuing operations was$5.0 billion in 2022 compared with$16.4 billion in 2021. The lower use of cash in investing activities of continuing operations was primarily due to lower cash used for acquisitions, partially offset by higher purchases of securities and other investments coupled with lower proceeds from sales of securities and other investments. Cash used in financing activities of continuing operations was$9.1 billion in 2022 compared with cash provided by financing activities of continuing operations of$3.1 billion in 2021. The change was primarily driven by the cash distribution received in 2021 from Organon in connection with the spin-off (see Note 3 to the consolidated financial statements), proceeds from the issuance of debt in 2021 compared with no such proceeds in 2022, and higher dividends paid to stockholders in 2022, partially offset by net repayments of short-term borrowings and treasury stock purchases in 2021 that did not occur in 2022. InDecember 2021 , the Company issued$8.0 billion principal amount of senior unsecured notes consisting of$1.5 billion of 1.70% notes due 2027,$1.0 billion of 1.90% notes due 2028,$2.0 billion of 2.15% notes due 2031,$2.0 billion of 2.75% notes due 2051 and$1.5 billion of 2.90% notes due 2061.Merck used the net proceeds from the offering of the 2027 notes, the 2031 notes, the 2051 notes and the 2061 notes for general corporate purposes, including the repayment of outstanding commercial paper borrowings (including commercial paper borrowings in connection withMerck 's acquisition of Acceleron), and other indebtedness.Merck has committed to allocate an amount equal to the net proceeds of the offering of the notes due in 2028 to finance or refinance, in whole or in part, projects and partnerships in the Company's priority environmental, social and governance (ESG) areas. InJune 2020 , the Company issued$4.5 billion principal amount of senior unsecured notes consisting of$1.0 billion of 0.75% notes due 2026,$1.25 billion of 1.45% notes due 2030,$1.0 billion of 2.35% notes due 2040 and$1.25 billion of 2.45% notes due 2050.Merck used the net proceeds from the offering for general corporate purposes, including the repayment of outstanding commercial paper borrowings and other indebtedness. In 2022, the Company's$1.25 billion , 2.35% notes and the Company's$1.0 billion , 2.40% notes matured in accordance with their terms and were repaid. In 2021, the Company's$1.15 billion , 3.875% notes and the Company's €1.0 billion, 1.125% notes matured in accordance with their terms and were repaid. In 2020, the Company's$1.25 billion , 1.85% notes and$700 million floating-rate notes matured in accordance with their terms and were repaid. The Company has a$6.0 billion credit facility that matures inJune 2026 . The facility provides backup liquidity for the Company's commercial paper borrowing facility and is to be used for general corporate purposes. The Company has not drawn funding from this facility. 60
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The Company expects foreseeable liquidity and capital resource requirements to be met through existing cash and cash equivalents and anticipated cash flows from operations, as well as commercial paper borrowings and long-term borrowings if needed.Merck believes that its sources of financing will be adequate to meet its future requirements. The Company's material cash requirements arising in the normal course of business primarily include:
Debt Obligations and Interest Payments - See Note 10 to the consolidated financial statements for further detail of the Company's debt obligations and the timing of expected future principal and interest payments.
Tax Liabilities - In connection with the enactment of the TCJA, the Company is required to pay a one-time transition tax, which the Company has elected to pay over a period of eight years through 2025 as permitted under the TCJA. Additionally, the Company has liabilities for unrecognized tax benefits, including interest and penalties. See Note 16 to the consolidated financial statements for further information pertaining to the transition tax and liabilities for unrecognized tax benefits. Operating Leases - See Note 10 to consolidated financial statements for further details of the Company's lease obligations and the timing of expected future lease payments. Contingent Milestone Payments - The Company has an accrued liability for a contingent sales-based milestone payment related to a collaboration with AstraZeneca where payment has been deemed probable by the Company but remains subject to the achievement of the related sales-based milestone. See Note 5 to the consolidated financial statements for additional information related to this sales-based milestone. Purchase Obligations - Purchase obligations are enforceable and legally binding obligations for purchases of goods and services including minimum inventory contracts, research and development and advertising. Purchase obligations also include future inventory purchases the Company has committed to in connection with certain divestitures. As ofDecember 31, 2022 , the Company had total purchase obligations of$6.0 billion , of which$1.7 billion is estimated to be payable in 2023.
In
Effective as ofNovember 3, 2009 , the Company executed a full and unconditional guarantee of the then existing debt of its subsidiaryMerck Sharp & Dohme Corp. (MSD) and MSD executed a full and unconditional guarantee of the then existing debt of the Company (excluding commercial paper), including for payments of principal and interest. These guarantees do not extend to debt issued subsequent to that date. The Company believes it maintains a conservative financial profile. The Company places its cash and investments in instruments that meet high credit quality standards, as specified in its investment policy guidelines. These guidelines also limit the amount of credit exposure to any one issuer. The Company does not participate in any off-balance sheet arrangements involving unconsolidated subsidiaries that provide financing or potentially expose the Company to unrecorded financial obligations. InNovember 2022 ,Merck 's Board of Directors increased the quarterly dividend, declaring a quarterly dividend of$0.73 per share on the Company's outstanding common stock for the first quarter of 2023 that was paid inJanuary 2023 . InJanuary 2023 , the Board of Directors declared a quarterly dividend of$0.73 per share on the Company's outstanding common stock for the second quarter of 2023 payable inApril 2023 . InOctober 2018 ,Merck 's Board of Directors authorized purchases of up to$10 billion ofMerck 's common stock for its treasury. The treasury stock purchase authorization has no time limit and will be made over time in open-market transactions, block transactions, on or off an exchange, or in privately negotiated transactions. The Company did not purchase any shares of its common stock for its treasury during 2022 under this program. As ofDecember 31, 2022 , the Company's remaining share repurchase authorization was$5.0 billion . The Company anticipates making modest share repurchases under this program in 2023. The Company purchased$840 million and$1.3 billion of its common stock during 2021 and 2020, respectively, under authorized share repurchase programs.
Financial Instruments Market Risk Disclosures
The Company manages the impact of foreign exchange rate movements and interest
rate movements on its earnings, cash flows and fair values of assets and
liabilities through operational means and through the use of various financial
instruments, including derivative instruments.
A significant portion of the Company's revenues and earnings in foreign
affiliates is exposed to changes in foreign exchange rates. The objectives of
and accounting related to the Company's foreign currency risk management
program, as well as its interest rate risk management activities are discussed
below.
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Foreign Currency Risk Management
The Company has established revenue hedging, balance sheet risk management, and net investment hedging programs to protect against volatility of future foreign currency cash flows and changes in fair value caused by changes in foreign exchange rates. The objective of the revenue hedging program is to reduce the variability caused by changes in foreign exchange rates that would affect theU.S. dollar value of future cash flows derived from foreign currency denominated sales, primarily the euro, Japanese yen and Chinese renminbi. To achieve this objective, the Company will hedge a portion of its forecasted foreign currency denominated third-party and intercompany distributor entity sales (forecasted sales) that are expected to occur over its planning cycle, typically no more than two years into the future. The Company will layer in hedges over time, increasing the portion of forecasted sales hedged as it gets closer to the expected date of the forecasted sales. The portion of forecasted sales hedged is based on assessments of cost-benefit profiles that consider natural offsetting exposures, revenue and exchange rate volatilities and correlations, and the cost of hedging instruments. The Company manages its anticipated transaction exposure principally with purchased local currency put options, forward contracts, and purchased collar options. The fair values of these derivative contracts are recorded as either assets (gain positions) or liabilities (loss positions) in the Consolidated Balance Sheet. Changes in the fair value of derivative contracts are recorded each period in either current earnings or Other Comprehensive Income (Loss) (OCI), depending on whether the derivative is designated as part of a hedge transaction and, if so, the type of hedge transaction. For derivatives that are designated as cash flow hedges, the unrealized gains or losses on these contracts are recorded in Accumulated Other Comprehensive Loss (AOCL) and reclassified into Sales when the hedged anticipated revenue is recognized. For those derivatives which are not designated as cash flow hedges, but serve as economic hedges of forecasted sales, unrealized gains or losses are recorded in Sales each period. The cash flows from both designated and non-designated contracts are reported as operating activities in the Consolidated Statement of Cash Flows. The Company does not enter into derivatives for trading or speculative purposes. BecauseMerck principally sells foreign currency in its revenue hedging program, a uniform weakening of theU.S. dollar would yield the largest overall potential loss in the market value of these hedge instruments. The market value ofMerck 's hedges would have declined by an estimated$647 million and$648 million atDecember 31, 2022 and 2021, respectively, from a uniform 10% weakening of theU.S. dollar. The market value was determined using a foreign exchange option pricing model and holding all factors except exchange rates constant. Although not predictive in nature, the Company believes that a 10% threshold reflects reasonably possible near-term changes inMerck 's major foreign currency exposures relative to theU.S. dollar. The Company manages operating activities and net asset positions at each local subsidiary in order to mitigate the effects of exchange on monetary assets and liabilities. Monetary assets and liabilities denominated in a currency other than the functional currency of a given subsidiary are remeasured at spot rates in effect on the balance sheet date with the effects of changes in spot rates reported in Other (income) expense, net. The Company also uses a balance sheet risk management program to mitigate the exposure of such assets and liabilities from the effects of volatility in foreign exchange.Merck principally utilizes forward exchange contracts to offset the effects of exchange in developed country currencies, primarily the euro, Japanese yen, British pound, Canadian dollar, Australian dollar and Swiss franc. For exposures in developing country currencies, including the Chinese renminbi, the Company will enter into forward contracts to offset the effects of exchange on exposures when it is deemed economical to do so based on a cost-benefit analysis that considers the magnitude of the exposure, the volatility of the exchange rate and the cost of the hedging instrument. The forward contracts are not designated as hedges and are marked to market through Other (income) expense, net. Accordingly, fair value changes in the forward contracts help mitigate the changes in the value of the remeasured assets and liabilities attributable to changes in foreign currency exchange rates, except to the extent of the spot-forward differences. These differences are not significant due to the short-term nature of the contracts, which typically have average maturities at inception of less than six months. The cash flows from these contracts are reported as operating activities in the Consolidated Statement of Cash Flows. A sensitivity analysis to changes in the value of theU.S. dollar on foreign currency denominated derivatives, investments and monetary assets and liabilities indicated that if theU.S. dollar uniformly weakened by 10% against all currency exposures of the Company atDecember 31, 2022 and 2021, Income from Continuing Operations Before Taxes would have declined by approximately$190 million and$125 million in 2022 and 2021, respectively. Because the Company was in a net short (payable) position relative to its major foreign currencies after consideration of forward contracts, a uniform weakening of theU.S. dollar will yield the largest overall potential net loss in earnings due to exchange. This measurement assumes that a change in one foreign currency relative to theU.S. dollar would not affect other foreign currencies relative to theU.S. dollar. Although not predictive in nature, the Company believes that a 10% threshold reflects reasonably possible near-term changes inMerck 's major foreign 62
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currency exposures relative to the
The economy of Türkiye was determined to be hyperinflationary in 2022. Consequently, in accordance withU.S. GAAP, the Company began remeasuring the monetary assets and liabilities of those operations in earnings beginning in the second quarter of 2022. The impact to the Company's results is immaterial. The Company also uses forward exchange contracts to hedge a portion of its net investment in foreign operations against movements in exchange rates. The forward contracts are designated as hedges of the net investment in a foreign operation. The unrealized gains or losses on these contracts are recorded in foreign currency translation adjustment within OCI, and remain in AOCL until either the sale or complete or substantially complete liquidation of the subsidiary. The Company excludes certain portions of the change in fair value of its derivative instruments from the assessment of hedge effectiveness (excluded components). Changes in fair value of the excluded components are recognized in OCI. The Company recognizes in earnings the initial value of the excluded components on a straight-line basis over the life of the derivative instrument, rather than using the mark-to-market approach. The cash flows from these contracts are reported as investing activities in the Consolidated Statement of Cash Flows. Foreign exchange risk is also managed through the use of foreign currency debt. The Company's senior unsecured euro-denominated notes have been designated as, and are effective as, economic hedges of the net investment in a foreign operation. Accordingly, foreign currency transaction gains or losses due to spot rate fluctuations on the euro-denominated debt instruments are included in foreign currency translation adjustment within OCI.
Interest Rate Risk Management
The Company may use interest rate swap contracts on certain investing and borrowing transactions to manage its net exposure to interest rate changes and to reduce its overall cost of borrowing. The Company does not use leveraged swaps and, in general, does not leverage any of its investment activities that would put principal at risk. The Company is not currently a party to any interest rate swaps. The Company's investment portfolio includes cash equivalents and short-term investments, the market values of which are not significantly affected by changes in interest rates. The market value of the Company's medium- to long-term fixed-rate investments is modestly affected by changes inU.S. interest rates. Changes in medium- to long-termU.S. interest rates have a more significant impact on the market value of the Company's fixed-rate borrowings, which generally have longer maturities. A sensitivity analysis to measure potential changes in the market value ofMerck 's investments and debt from a change in interest rates indicated that a one percentage point increase in interest rates atDecember 31, 2022 and 2021 would have positively affected the net aggregate market value of these instruments by$2.0 billion and$3.2 billion , respectively. A one percentage point decrease atDecember 31, 2022 and 2021 would have negatively affected the net aggregate market value by$2.4 billion and$3.9 billion , respectively. The fair value ofMerck 's debt was determined using pricing models reflecting one percentage point shifts in the appropriate yield curves. The fair values ofMerck 's investments were determined using a combination of pricing and duration models.
Critical Accounting Estimates
The Company's consolidated financial statements are prepared in conformity with GAAP and, accordingly, include certain amounts that are based on management's best estimates and judgments. Estimates are used when accounting for amounts recorded in connection with acquisitions, including initial fair value determinations of assets and liabilities in a business combination (primarily IPR&D, other intangible assets and contingent consideration), as well as subsequent fair value measurements. Additionally, estimates are used in determining such items as provisions for sales discounts and returns, depreciable and amortizable lives, recoverability of inventories, including those produced in preparation for product launches, amounts recorded for contingencies, environmental liabilities, accruals for contingent sales-based milestone payments and other reserves, pension and other postretirement benefit plan assumptions, share-based compensation assumptions, restructuring costs, impairments of long-lived assets (including intangible assets and goodwill) and investments, and taxes on income. Because of the uncertainty inherent in such estimates, actual results may differ from these estimates. Application of the following accounting policies result in accounting estimates having the potential for the most significant impact on the financial statements.
Acquisitions and Dispositions
To determine whether transactions should be accounted for as acquisitions (or
disposals) of assets or businesses, the Company makes certain judgments, which
include assessment of the inputs, processes, and outputs associated with the
acquired set of activities. If the Company determines that substantially all of
the fair value of gross
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assets included in a transaction is concentrated in a single asset (or a group of similar assets), the assets would not represent a business. To be considered a business, the assets in a transaction need to include an input and a substantive process that together significantly contribute to the ability to create outputs. In a business combination, the acquisition method of accounting requires that the assets acquired and liabilities assumed be recorded as of the date of the acquisition at their respective fair values with limited exceptions. The fair values of intangible assets are determined utilizing information available near the acquisition date based on expectations and assumptions that are deemed reasonable by management. Given the considerable judgment involved in determining fair values, the Company typically obtains assistance from third-party valuation specialists for significant items. Assets acquired and liabilities assumed in a business combination that arise from contingencies are generally recognized at fair value. If fair value cannot be determined, the asset or liability is recognized if probable and reasonably estimable; if these criteria are not met, no asset or liability is recognized. Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Accordingly, the Company may be required to value assets at fair value measures that do not reflect the Company's intended use of those assets. Any excess of the purchase price (consideration transferred) over the estimated fair values of net assets acquired is recorded as goodwill. Transaction costs and costs to restructure the acquired company are expensed as incurred. The operating results of the acquired business are reflected in the Company's consolidated financial statements after the date of the acquisition.
The judgments made in determining estimated fair values assigned to assets acquired and liabilities assumed in a business combination, as well as asset lives, can materially affect the Company's results of operations.
The fair values of identifiable intangible assets related to currently marketed products and product rights are primarily determined by using an income approach through which fair value is estimated based on each asset's discounted projected net cash flows. The Company's estimates of market participant net cash flows consider historical and projected pricing, margins and expense levels; the performance of competing products where applicable; relevant industry and therapeutic area growth drivers and factors; current and expected trends in technology and product life cycles; the time and investment that will be required to develop products and technologies; the ability to obtain additional marketing and regulatory approvals; the ability to manufacture and commercialize the products; the extent and timing of potential new product introductions by the Company's competitors; and the life of each asset's underlying patent and related patent term extension, if any. The net cash flows are then probability-adjusted where appropriate to consider the uncertainties associated with the underlying assumptions, as well as the risk profile of the net cash flows utilized in the valuation. The probability-adjusted future net cash flows of each product are then discounted to present value utilizing an appropriate discount rate. The fair values of identifiable intangible assets related to IPR&D are also determined using an income approach, through which fair value is estimated based on each asset's probability-adjusted future net cash flows, which reflect the different stages of development of each product and the associated probability of successful completion. The net cash flows are then discounted to present value using an appropriate discount rate. Amounts allocated to acquired IPR&D are capitalized and accounted for as indefinite-lived intangible assets, subject to impairment testing until completion or abandonment of the projects. Upon successful completion of each IPR&D project,Merck will make a determination as to the then-useful life of the intangible asset, generally determined by the period in which the substantial majority of the cash flows are expected to be generated, and begin amortization. Certain of the Company's business combinations involve the potential for future payment of consideration that is contingent upon the achievement of performance milestones, including product development milestones and royalty payments on future product sales. The fair value of contingent consideration liabilities is determined at the acquisition date using unobservable inputs. These inputs include the estimated amount and timing of projected cash flows, the probability of success (achievement of the contingent event) and the risk-adjusted discount rate used to present value the probability-weighted cash flows. Subsequent to the acquisition date, at each reporting period until the contingency is resolved, the contingent consideration liability is remeasured at current fair value with changes (either expense or income) recorded in earnings. Changes in any of the inputs may result in a significantly different fair value adjustment. If the Company determines the transaction will not be accounted for as an acquisition of a business, the transaction will be accounted for as an asset acquisition rather than a business combination and, therefore, no goodwill will be recorded. In an asset acquisition, acquired IPR&D with no alternative future use is charged to expense and contingent consideration is not recognized at the acquisition date. 64
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Contingent Sales-Based Milestones
The terms of certain collaborative arrangements require the Company to make payments contingent upon the achievement of sales-based milestones. Sales-based milestones payable byMerck to collaborative partners are accrued and capitalized, subject to cumulative amortization catch-up, when determined to be probable of being achieved by the Company based on future sales forecasts. The amortization catch-up is calculated either from the time of the first regulatory approval for indications that were unapproved at the time the collaboration was formed, or from time of the formation of the collaboration for approved products. The related intangible asset that is recognized is amortized over its remaining useful life, subject to impairment testing.
Revenue Recognition
Recognition of revenue requires evidence of a contract, probable collection of sales proceeds and completion of substantially all performance obligations.Merck acts as the principal in substantially all of its customer arrangements and therefore records revenue on a gross basis. The majority of the Company's contracts related to thePharmaceutical and Animal Health segments have a single performance obligation - the promise to transfer goods. Shipping is considered immaterial in the context of the overall customer arrangement and damages or loss of goods in transit are rare. Therefore, shipping is not deemed a separately recognized performance obligation. The vast majority of revenues from sales of products are recognized at a point in time when control of the goods is transferred to the customer, which the Company has determined is when title and risks and rewards of ownership transfer to the customer and the Company is entitled to payment. For certain services in theAnimal Health segment, revenue is recognized over time, generally ratably over the contract term as services are provided. These service revenues are not material. The nature of the Company's business gives rise to several types of variable consideration including discounts and returns, which are estimated at the time of sale generally using the expected value method, although the most likely amount method is used for prompt pay discounts. In theU.S. , sales discounts are issued to customers at the point-of-sale, through an intermediary wholesaler (known as chargebacks), or in the form of rebates. Additionally, sales are generally made with a limited right of return under certain conditions. Revenues are recorded net of provisions for sales discounts and returns, which are established at the time of sale. In addition, if collection of accounts receivable is expected to be in excess of one year, sales are recorded net of time value of money discounts, which have not been material. TheU.S. provision for aggregate customer discounts covers chargebacks and rebates. Chargebacks are discounts that occur when a contracted customer purchases through an intermediary wholesaler. The contracted customer generally purchases product from the wholesaler at its contracted price plus a mark-up. The wholesaler, in turn, charges the Company back for the difference between the price initially paid by the wholesaler and the contract price paid to the wholesaler by the customer. The provision for chargebacks is based on expected sell-through levels by the Company's wholesale customers to contracted customers, as well as estimated wholesaler inventory levels. Rebates are amounts owed based upon definitive contractual agreements or legal requirements with private sector and public sector (Medicaid and Medicare Part D) benefit providers after the final dispensing of the product to a benefit plan participant. The provision for rebates is based on expected patient usage, as well as inventory levels in the distribution channel to determine the contractual obligation to the benefit providers. The Company uses historical customer segment utilization mix, sales forecasts, changes to product mix and price, inventory levels in the distribution channel, government pricing calculations and prior payment history in order to estimate the expected provision. Amounts accrued for aggregate customer discounts are evaluated on a quarterly basis through comparison of information provided by the wholesalers, health maintenance organizations, pharmacy benefit managers, federal and state agencies, and other customers to the amounts accrued.Merck remains committed to the 340B Program and to providing 340B discounts to eligible covered entities. See Note 11 to the consolidated financial statements for information regarding 340B legal proceedings. The Company continually monitors its provision for aggregate customer discounts. There were no material adjustments to estimates associated with the aggregate customer discount provision in 2022, 2021 or 2020. 65
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Summarized information about changes in the aggregate customer discount accrual
related to
($ in millions) 2022 2021 Balance January 1$ 2,844 $ 2,776 Current provision 12,408 12,412 Adjustments to prior years (155) (110) Payments (12,179) (12,234) Balance December 31$ 2,918 $ 2,844 Accruals for chargebacks are reflected as a direct reduction to accounts receivable and accruals for rebates as current liabilities. The accrued balances relative to these provisions included in Accounts receivable and Accrued and other current liabilities were$178 million and$2.7 billion , respectively, atDecember 31, 2022 and were$207 million and$2.6 billion , respectively, atDecember 31, 2021 . Outside of theU.S. , variable consideration in the form of discounts and rebates are a combination of commercially-driven discounts in highly competitive product classes, discounts required to gain or maintain reimbursement, or legislatively mandated rebates. In certain European countries, legislatively mandated rebates are calculated based on an estimate of the government's total unbudgeted spending and the Company's specific payback obligation. Rebates may also be required based on specific product sales thresholds. The Company applies an estimated factor against its actual invoiced sales to represent the expected level of future discount or rebate obligations associated with the sale. The Company maintains a returns policy that allows itsU.S. pharmaceutical customers to return product within a specified period prior to and subsequent to the expiration date (generally, three to six months before and 12 months after product expiration). The estimate of the provision for returns is based upon historical experience with actual returns. Additionally, the Company considers factors such as levels of inventory in the distribution channel, product dating and expiration period, whether products have been discontinued, entrance in the market of generic or other competition, changes in formularies or launch of over-the-counter products, among others. The product returns provision forU.S. pharmaceutical sales as a percentage ofU.S. net pharmaceutical sales was 1.1% in 2022, 0.9% in 2021 and 0.5% in 2020. Outside of theU.S. , returns are only allowed in certain countries on a limited basis.Merck 's payment terms forU.S. pharmaceutical customers are typically 36 days from receipt of invoice and forU.S. animal health customers are typically 30 days from receipt of invoice; however, certain products, including Keytruda, have longer payment terms, some of which are up to 90 days. Outside of theU.S. , payment terms are typically 30 days to 90 days, although certain markets have longer payment terms. Through its distribution programs withU.S. wholesalers, the Company encourages wholesalers to align purchases with underlying demand and maintain inventories below specified levels. The terms of the programs allow the wholesalers to earn fees upon providing visibility into their inventory levels, as well as by achieving certain performance parameters such as inventory management, customer service levels, reducing shortage claims and reducing product returns. Information provided through the wholesaler distribution programs includes items such as sales trends, inventory on-hand, on-order quantity and product returns.
Inventories Produced in Preparation for Product Launches
The Company capitalizes inventories produced in preparation for product launches sufficient to support estimated initial market demand. Typically, capitalization of such inventory does not begin until the related product candidates are in Phase 3 clinical trials and regulatory approval is considered by the Company to be probable. The Company monitors the status of each respective product within the regulatory approval process; however, the Company generally does not disclose specific timing for regulatory approval. If the Company is aware of any specific risks or contingencies other than the normal regulatory approval process or if there are any specific issues identified during the research process relating to safety, efficacy, manufacturing, marketing or labeling, the related inventory would generally not be capitalized. Expiry dates of the inventory are affected by the stage of completion. The Company manages the levels of inventory at each stage to optimize the shelf life of the inventory in relation to anticipated market demand in order to avoid product expiry issues. For inventories that are capitalized, anticipated future sales and shelf lives support the realization of the inventory value as the inventory shelf life is sufficient to meet initial product launch requirements. Inventories produced in preparation for product launches capitalized atDecember 31, 2022 and 2021 were$516 million and$256 million , respectively. 66
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Contingencies and Environmental Liabilities
The Company is involved in various claims and legal proceedings of a nature considered normal to its business, including product liability, intellectual property and commercial litigation, as well as certain additional matters including governmental and environmental matters (see Note 11 to the consolidated financial statements). The Company records accruals for contingencies when it is probable that a liability has been incurred and the amount can be reasonably estimated. These accruals are adjusted periodically as assessments change or additional information becomes available. For product liability claims, a portion of the overall accrual is actuarially determined and considers such factors as past experience, number of claims reported and estimates of claims incurred but not yet reported. Individually significant contingent losses are accrued when probable and reasonably estimable. Legal defense costs expected to be incurred in connection with a loss contingency are accrued when probable and reasonably estimable. Some of the significant factors considered in the review of these legal defense reserves are as follows: the actual costs incurred by the Company; the development of the Company's legal defense strategy and structure in light of the scope of its litigation; the number of cases being brought against the Company; the costs and outcomes of completed trials and the most current information regarding anticipated timing, progression, and related costs of pre-trial activities and trials in the associated litigation. The amount of legal defense reserves as ofDecember 31, 2022 and 2021 of approximately$230 million represents the Company's best estimate of the minimum amount of defense costs to be incurred in connection with its outstanding litigation; however, events such as additional trials and other events that could arise in the course of its litigation could affect the ultimate amount of legal defense costs to be incurred by the Company. The Company will continue to monitor its legal defense costs and review the adequacy of the associated reserves and may determine to increase the reserves at any time in the future if, based upon the factors set forth, it believes it would be appropriate to do so. The Company and its subsidiaries are parties to a number of proceedings brought under the Comprehensive Environmental Response, Compensation and Liability Act, commonly known as Superfund, and other federal and state equivalents. When a legitimate claim for contribution is asserted, a liability is initially accrued based upon the estimated transaction costs to manage the site. Accruals are adjusted as site investigations, feasibility studies and related cost assessments of remedial techniques are completed, and as the extent to which other potentially responsible parties who may be jointly and severally liable can be expected to contribute is determined. The Company is also remediating environmental contamination resulting from past industrial activity at certain of its sites and takes an active role in identifying and accruing for these costs. In the past,Merck performed a worldwide survey to assess all sites for potential contamination resulting from past industrial activities. Where assessment indicated that physical investigation was warranted, such investigation was performed, providing a better evaluation of the need for remedial action. Where such need was identified, remedial action was then initiated. As definitive information became available during the course of investigations and/or remedial efforts at each site, estimates were refined and accruals were established or adjusted accordingly. These estimates and related accruals continue to be refined annually. The Company believes that there are no compliance issues associated with applicable environmental laws and regulations that would have a material adverse effect on the Company. Expenditures for remediation and environmental liabilities were$4 million in 2022 and are estimated to be$23 million in the aggregate for the years 2023 through 2027. In management's opinion, the liabilities for all environmental matters that are probable and reasonably estimable have been accrued and totaled$39 million and$40 million atDecember 31, 2022 and 2021, respectively. These liabilities are undiscounted, do not consider potential recoveries from other parties and will be paid out over the periods of remediation for the applicable sites, which are expected to occur primarily over the next 15 years. Although it is not possible to predict with certainty the outcome of these matters, or the ultimate costs of remediation, management does not believe that any reasonably possible expenditures that may be incurred in excess of the liabilities accrued should exceed approximately$35 million in the aggregate. Management also does not believe that these expenditures should result in a material adverse effect on the Company's financial condition, results of operations or liquidity for any year.
Share-Based Compensation
The Company expenses all share-based payment awards to employees, including grants of stock options, over the requisite service period based on the grant date fair value of the awards. The Company determines the fair value of certain share-based awards using the Black-Scholes option-pricing model which uses both historical and current market data to estimate the fair value. This method incorporates various assumptions such as the risk-free interest rate, expected volatility, expected dividend yield and expected life of the options. Total pretax share-based compensation expense from continuing operations was$541 million in 2022,$479 million in 2021 and$441 million in 2020. AtDecember 31, 2022 , there was$813 million of total pretax unrecognized compensation expense related to nonvested stock option, restricted stock unit and performance share unit awards which will be recognized over a 67
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weighted-average period of 1.9 years. For segment reporting, share-based compensation costs are unallocated expenses.
Pensions and Other Postretirement Benefit Plans
Net periodic benefit cost for pension plans totaled$554 million in 2022,$748 million in 2021 and$450 million in 2020. Net periodic benefit credit for other postretirement benefit plans was$93 million in 2022,$83 million in 2021 and$59 million in 2020. Pension and other postretirement benefit plan information for financial reporting purposes is calculated using actuarial assumptions including a discount rate for plan benefit obligations and an expected rate of return on plan assets. The changes in net periodic benefit cost year over year for pension plans are primarily attributable to changes in the discount rates. Additionally, net periodic benefit costs in 2022 and 2021 reflect higher settlement charges incurred by certain plans compared with 2020. The Company reassesses its benefit plan assumptions on a regular basis. For both the pension and other postretirement benefit plans, the discount rate is evaluated on measurement dates and modified to reflect the prevailing market rate of a portfolio of high-quality fixed-income debt instruments that would provide the future cash flows needed to pay the benefits included in the benefit obligation as they come due. The discount rates for the Company'sU.S. pension and other postretirement benefit plans ranged from 5.50% to 5.90% atDecember 31, 2022 , compared with a range of 2.60% to 3.10% atDecember 31, 2021 . The expected rate of return for both the pension and other postretirement benefit plans represents the average rate of return to be earned on plan assets over the period the benefits included in the benefit obligation are to be paid. In developing the expected rate of return, the Company considers long-term compound annualized returns of historical market data, current market conditions and actual returns on the Company's plan assets. Using this reference information, the Company develops forward-looking return expectations for each asset category and a weighted-average expected long-term rate of return for a target portfolio allocated across these investment categories. The expected portfolio performance reflects the contribution of active management as appropriate. For 2023, the expected rate of return for the Company'sU.S. pension and other postretirement benefit plans will be 7.00% compared to 6.70% in 2022. The Company has established investment guidelines for itsU.S. pension and other postretirement plans to create an asset allocation that is expected to deliver a rate of return sufficient to meet the long-term obligation of each plan, given an acceptable level of risk. The target investment portfolio of the Company'sU.S. pension and other postretirement benefit plans is allocated 25% to 40% inU.S. equities, 10% to 20% in international equities, 35% to 45% in fixed-income investments, and up to 8% in cash and other investments. The portfolio's equity weighting is consistent with the long-term nature of the plans' benefit obligations. The expected annual standard deviation of returns of the target portfolio, which approximates 10%, reflects both the equity allocation and the diversification benefits among the asset classes in which the portfolio invests. For international pension plans, the targeted investment portfolio varies based on the duration of pension liabilities and local government rules and regulations. Although a significant percentage of plan assets are invested inU.S. equities, concentration risk is mitigated through the use of strategies that are diversified within management guidelines. Actuarial assumptions are based upon management's best estimates and judgment. A reasonably possible change of plus (minus) 25 basis points in the discount rate assumption, with other assumptions held constant, would have had an estimated$81 million favorable (unfavorable) impact on the Company's net periodic benefit cost in 2022. A reasonably possible change of plus (minus) 25 basis points in the expected rate of return assumption, with other assumptions held constant, would have had an estimated$59 million favorable (unfavorable) impact onMerck 's net periodic benefit cost in 2022. Required funding obligations for 2023 relating to the Company's pension and other postretirement benefit plans are not expected to be material. The preceding hypothetical changes in the discount rate and expected rate of return assumptions would not impact the Company's funding requirements. Net gain/loss amounts, which primarily reflect differences between expected and actual returns on plan assets as well as the effects of changes in actuarial assumptions, are recorded as a component of AOCL. Expected returns for pension plans are based on a calculated market-related value of assets. Net gain/loss amounts in AOCL in excess of certain thresholds are amortized into net periodic benefit cost over the average remaining service life of employees.
Restructuring Costs
Restructuring costs have been recorded in connection with restructuring programs
designed to streamline the Company's cost structure. As a result, the Company
has made estimates and judgments regarding its future plans, including future
termination benefits to be incurred in conjunction with involuntary separations
when such separations are probable and estimable. When accruing termination
costs, the Company will recognize the amount within a range of costs that is the
best estimate within the range. When no amount within the range is a better
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estimate than any other amount, the Company recognizes the minimum amount within the range. In connection with these actions, management also assesses the recoverability of long-lived assets employed in the business. In certain instances, asset lives have been shortened based on changes in the expected useful lives of the affected assets. Severance and other related costs are reflected within Restructuring costs. Asset-related charges are reflected within Cost of sales, Selling, general and administrative expenses and Research and development expenses depending upon the nature of the asset.
Impairments of Long-Lived Assets
The Company assesses changes in economic, regulatory and legal conditions and makes assumptions regarding estimated future cash flows in evaluating the value of the Company's property, plant and equipment, goodwill and other intangible assets. The Company periodically evaluates whether current facts or circumstances indicate that the carrying values of its long-lived assets to be held and used may not be recoverable. If such circumstances are determined to exist, an estimate of the undiscounted future cash flows of these assets, or appropriate asset groupings, is compared to the carrying value to determine whether an impairment exists. If the asset is determined to be impaired, the loss is measured based on the difference between the asset's fair value and its carrying value. If quoted market prices are not available, the Company will estimate fair value using a discounted value of estimated future cash flows approach.Goodwill represents the excess of the consideration transferred over the fair value of net assets of businesses acquired.Goodwill is assigned to reporting units and evaluated for impairment on at least an annual basis, or more frequently if impairment indicators exist, by first assessing qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. Some of the factors considered in the assessment include general macroeconomic conditions, conditions specific to the industry and market, cost factors which could have a significant effect on earnings or cash flows, the overall financial performance of the reporting unit, and whether there have been sustained declines in the Company's share price. If the Company concludes it is more likely than not that the fair value of a reporting unit is less than its carrying amount, a quantitative fair value test is performed. If the carrying value of a reporting unit is greater than its fair value, a goodwill impairment charge will be recorded for the difference (up to the carrying value of goodwill). Other acquired intangible assets (excluding IPR&D) are initially recorded at fair value, assigned an estimated useful life, and amortized primarily on a straight-line basis over their estimated useful lives. When events or circumstances warrant a review, the Company will assess recoverability from future operations using pretax undiscounted cash flows derived from the lowest appropriate asset groupings. Impairments are recognized in operating results to the extent that the carrying value of the intangible asset exceeds its fair value, which is determined based on the net present value of estimated future cash flows. IPR&D that the Company acquires in conjunction with the acquisition of a business represents the fair value assigned to incomplete research projects which, at the time of acquisition, have not reached technological feasibility. The amounts are capitalized and accounted for as indefinite-lived intangible assets, subject to impairment testing until completion or abandonment of the projects. The Company evaluates IPR&D for impairment at least annually, or more frequently if impairment indicators exist (such as unfavorable clinical trial data, changes in the commercial landscape or delays in the clinical development program and related regulatory filing and approval timelines), by performing a quantitative test that compares the fair value of the IPR&D intangible asset with its carrying value. For impairment testing purposes, the Company may combine separately recorded IPR&D intangible assets into one unit of account based on the relevant facts and circumstances. Generally, the Company will combine IPR&D intangible assets for testing purposes if they operate as a single asset and are essentially inseparable. If the fair value is less than the carrying amount, an impairment loss is recognized in operating results.
The judgments made in evaluating impairment of long-lived intangibles can materially affect the Company's results of operations.
Taxes on Income
The Company's effective tax rate is based on pretax income, statutory tax rates
and tax planning opportunities available in the various jurisdictions in which
the Company operates. An estimated effective tax rate for a year is applied to
the Company's quarterly operating results. In the event that there is a
significant unusual or one-time item recognized, or expected to be recognized,
in the Company's quarterly operating results, the tax attributable to that item
would be separately calculated and recorded at the same time as the unusual or
one-time item. The Company considers the resolution of prior year tax matters to
be such items. Significant judgment is required in determining the Company's tax
provision and in evaluating its tax positions. The recognition and measurement
of a tax position is based on management's best judgment given the facts,
circumstances and information available at the reporting date. The Company
evaluates tax positions to determine whether the benefits of tax positions are
more
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likely than not of being sustained upon audit based on the technical merits of the tax position. For tax positions that are more likely than not of being sustained upon audit, the Company recognizes the amount of the benefit that is greater than 50% likely of being realized upon ultimate settlement in the financial statements. For tax positions that are not more likely than not of being sustained upon audit, the Company does not recognize any portion of the benefit in the financial statements. If the more likely than not threshold is not met in the period for which a tax position is taken, the Company may subsequently recognize the benefit of that tax position if the tax matter is effectively settled, the statute of limitations expires, or if the more likely than not threshold is met in a subsequent period (see Note 16 to the consolidated financial statements). Tax regulations require items to be included in the tax return at different times than the items are reflected in the financial statements. Timing differences create deferred tax assets and liabilities. Deferred tax assets generally represent items that can be used as a tax deduction or credit in the tax return in future years for which the Company has already recorded the tax benefit in the financial statements. The Company establishes valuation allowances for its deferred tax assets when the amount of expected future taxable income is not likely to support the use of the deduction or credit. Deferred tax liabilities generally represent tax expense recognized in the financial statements for which payment has been deferred or expense for which the Company has already taken a deduction on the tax return, but has not yet recognized as expense in the financial statements.
Recently Issued Accounting Standards
For a discussion of recently issued accounting standards, see Note 2 to the consolidated financial statements.
Cautionary Factors That May Affect Future Results
This report and other written reports and oral statements made from time to time by the Company may contain so-called "forward-looking statements," all of which are based on management's current expectations and are subject to risks and uncertainties which may cause results to differ materially from those set forth in the statements. One can identify these forward-looking statements by their use of words such as "anticipates," "expects," "plans," "will," "estimates," "forecasts," "projects" and other words of similar meaning, or negative variations of any of the foregoing. One can also identify them by the fact that they do not relate strictly to historical or current facts. These statements are likely to address the Company's growth strategy, financial results, product approvals, product potential, development programs, environmental or other sustainability initiatives, and may include statements related to the expected impact of the COVID-19 pandemic. One must carefully consider any such statement and should understand that many factors could cause actual results to differ materially from the Company's forward-looking statements. These factors include inaccurate assumptions and a broad variety of other risks and uncertainties, including some that are known and some that are not. No forward-looking statement can be guaranteed and actual future results may vary materially. The Company does not assume the obligation to update any forward-looking statement. One should carefully evaluate such statements in light of factors, including risk factors, described in the Company's filings with theSecurities and Exchange Commission , especially on this Form 10-K and Forms 10-Q and 8-K. In Item 1A. "Risk Factors" of this annual report on Form 10-K the Company discusses in more detail various important risk factors that could cause actual results to differ from expected or historic results. The Company notes these factors for investors as permitted by the Private Securities Litigation Reform Act of 1995. One should understand that it is not possible to predict or identify all such factors. Consequently, the reader should not consider any such list to be a complete statement of all potential risks or uncertainties.
Item 7A.Quantitative and Qualitative Disclosures about Market Risk.
The information required by this Item is incorporated by reference to the discussion under "Financial Instruments Market Risk Disclosures" in Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations."
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